Monday, August 31, 2015
Andrew Vollmer, a law professor at the University of Virginia and a former SEC deputy general counsel, has written two excellent papers on SEC enforcement.
The first, SEC Revanchism and the Expansion of Primary Liability under Section 17(a) and Rule 10b-5, is a critical look at the SEC’s decision in the Flannery administrative proceeding. If you’re a securities lawyer and you’re not familiar with Flannery, you should be. It stakes out a number of broad interpretations of liability under Rule 10b-5 and section 17(a) of the Securities Act. I (and Professor Vollmer) believe some of those positions are inconsistent with Supreme Court precedent, but the SEC’s is clearly trying to set up an argument for judicial deference under Chevron.
Professor Vollmer’s second article is Four Ways to Improve SEC Enforcement. He discusses the problems with SEC administrative proceedings and how to fix them.
Both articles are definitely worth reading.
Friday, August 28, 2015
I don't agree with SEC Commissioner Luis Aguilar on many issues. But I agree with his recent call for transparency in the disqualification waiver process.
A number of SEC rules, such as some of the offering registration exemptions, are not available to companies that have engaged in certain misbehavior in the past. But the SEC has the authority to waive those disqualifications, and it often does. Or, I should say, the SEC staff often does. As Commissioner Aguilar points out, the commissioners are often unaware that a waiver has been requested. And, as with staff no-action letters, it's often unclear why some waivers are granted and others are not.
I'm not a fan of the whole idea of discretionary waivers. Allowing government employees to waive the law on a case-by-case basis with little explanation strikes me as inconsistent with the rule of law. But, if we're going to have them, the process should be as transparent as possible.
Friday, August 21, 2015
Today’s post will discuss the DC Circuit’s recent ruling striking down portions of Dodd-Frank conflict minerals rule on First Amendment grounds for the second time. Judge Randolph, writing for the majority, clearly enjoyed penning this opinion. He quoted Charles Dickens, Arthur Kostler, and George Orwell while finding that the SEC rule requiring companies to declare whether their products are “DRC Conflict Free” fails strict scrutiny analysis. But I won’t engage in any constitutional analysis here. I leave that to the fine blogs and articles that have delved into that area of the law. See here, here here, here, here, and more. The NGOs that have vigorously fought for the right of consumers to learn how companies are sourcing their tin, tungsten, tantalum and gold have had understandably strong reactions. One considers the ruling a dangerous precedent on corporate personhood. Global Witness, a well respected NGO, calls it a dangerous and damaging ruling.
Regular readers of this blog know that I filed an amicus brief arguing that the law meant to defund the rebels raping and pillaging in the Democratic Republic of Congo was more likely to harm than help the intended recipients—the Congolese people. I have written probably a dozen blog posts on Dodd-Frank 1502 and won’t list them all but for more information see some of my most recent posts here, here, and here. The goal of this name and shame law is to ensure that consumers and investors know which companies are sourcing minerals from mines that are controlled by rebels. The theory is that consumers, armed with disclosures, will pressure companies to make sure that they use only “conflict-free” minerals in their cameras, cell phones, toothpaste, diapers, jewelry and component parts. I assume that the SEC will seek a full re-hearing or some other relief even though Chair May Jo White has said, “seeking to improve safety in mines for workers or to end horrible human rights atrocities in the Democratic Republic of the Congo are compelling objectives, which, as a citizen, I wholeheartedly share … [b]ut, as the Chair of the SEC, I must question, as a policy matter, using the federal securities laws and the SEC’s powers of mandatory disclosure to accomplish these goals.”
I agree with Chair White even though I applaud the efforts of companies like Apple and Intel to comply with this flawed law. Indeed, the Enough Project, which with others has led the fight for this and other laws, now reports that there are 140 “conflict-free” smelters. But the violence continues as just this week the press reports that the Congolese government announced that it is investigating its own peacekeeprs/soldiers for rape in the neighboring Central African Republic and the UN acknowledged that fighting between armed militias is still a problem and that they are still resisting state authority. News reports indicated two days ago that clinics are closing because of fear of attack by Ugandan rebels. This hits particularly close to me because my connection with DRC and the conflict mineral fight stems from the work that an NGO that I work with has done training doctors and midwives in the heart of the conflict zone there.
I don’t know how effective Dodd-Frank will be if the issuers don’t have to disclose what the court has called the Scarlet letter of “non DRC-conflict free.” But more important, as I argue in my writings, I don’t think that consumers’ buying habits match what they say when surveyed about ethical sourcing. In my most recent article (which I will post once the editors are done), I point out the following:
A recent survey used to support the new UK Modern Slavery Act indicates that two-thirds of UK consumers would stop buying a product if they found out that slaves were involved in the manufacturing process and that they would be willing to pay up to 10% more for slave-free products…The numbers are similar but slightly lower for those surveyed in the United States. But note, “when asked if they would be willing to pay more for their favourite products if this ensured they were produced without the use of modern slavery: 52% of American consumers said they would pay more to ensure products were produced without modern slavery; 27% were not sure; 21% said they would not pay more.” This means that at least 20% and possibly almost half of informed consumers would not likely change their buying habits. (italics added).
I’m probably more informed than most about the situation in the DRC because I have been there and read almost every report, blog post, article, hearing committee transcript and tweet about conflict minerals. I have seen children digging gold out of the ground while armed rebels stood guard. I have met the village chiefs in the conflict zones. I have been detained by the UN peacekeepers who wanted to know what I was researching and then warned me not to visit the mines because of the five dead bodies (which I saw) lying in the road from a rebel attack the night before. I have stayed in monasteries guarded by men with machine guns and been warned that if I left after dark I was just as likely to be raped by a police officer as a rebel. I have met with many women who were gang raped by rebels and members of the Congolese army. I have had dinner with Nobel nominee Dr. Denis Mukwege, who back in 2011 wanted to know why the US wasn’t stopping the atrocities. I know the situation is terrible. But it won't change and hasn’t changed because of a corporate governance disclosure that most average consumers won’t read (even if the SEC had prevailed) and won’t necessarily act on if they did read it.
Next week I will post about my personal conflict with disclosures. Should I, who refuses to shop at a certain big box retailer, still shop at Amazon now that an expose has revealed a very harsh workplace? What about Costco and others? Stay tuned.
August 21, 2015 in Corporate Governance, Corporate Personality, Corporations, CSR, Current Affairs, Human Rights, International Business, International Law, Legislation, Marcia Narine, Nonprofits, Securities Regulation | Permalink | Comments (1)
Wednesday, August 12, 2015
This weekend I will be in Panama filling in at the last minute for the corporate law session for an executive LLM progam. My students are practicing lawyers from Nicaragua, El Salvador, Costa Rica and Paraguay and have a variety of legal backgrounds. My challenge is to fit key corporate topics (other than corporate governance, compliance, M & A, finance, and accounting) into twelve hours over two days for people with different knowledge levels and experiences. The other faculty members hail from law schools here and abroad as well as BigLaw partners from the United States and other countries.
Prior to joining academia I spent several weeks a year training/teaching my internal clients about legal and compliance matters for my corporation. This required an understanding of US and host country concepts. I have also taught in executive MBA programs and I really enjoyed the rich discussion that comes from students with real-world practical experience. I know that I will have that experience again this weekend even though I will probably come back too brain dead to be coherent for my civil procedure and business associations classes on Tuesday.
I have put together a draft list of topics with the help of my co-bloggers and based in part on conversations with some of our LLM and international students who have practiced law elsewhere but who now seek a US degree:
Agency- What are the different kinds of authority and how does that affect liability?
Key issues for entity selection
- ease of formation
- ownership and control
- tax issues
- asset protection/liability to third parties for obligations of the business /piercing the veil of limited liability
- attractiveness to investors
- continuity and transferability
Main types of business forms in the United States
-Partnership/General and Limited
- C Corporation
- S Corporation
- Limited Liability Company
Fiduciary Duties/The Business Judgment Rule
Basic Securities Regulation/Key issues for Initial Public Offering/Basic Disclosures (students will examine the filings for an annual report and an IPO)
The Legal System in the United States
-how do companies defend themselves in lawsuits brought in the United States?
-key Clauses to Consider when drafting dispute resolution clauses in cross border contracts
Corporate Social Responsibility- Business and Human Rights
Enterprise Risk Management/What are executives of multinationals worried about?
Yes, this is an ambitious (crazy) list but the goal of the program is to help these experienced lawyers become better business advisors. Throughout the sessions we will have interactive exercises to apply what they have learned (and to keep them awake). So what am I missing? I would love your thoughts on what you think international lawyers need to know about corporate law in the US. Feel free to comment below or to email me at email@example.com. Adios!
August 12, 2015 in Business Associations, Comparative Law, Compliance, Corporate Governance, Corporations, CSR, Human Rights, International Business, International Law, Lawyering, Litigation, LLCs, Marcia Narine, Securities Regulation, Teaching | Permalink | Comments (0)
Tuesday, August 4, 2015
The following position posting was provided to us via e-mail:
RUTGERS UNIVERSITY SCHOOL OF LAW (CAMDEN CAMPUS) invites applications from entry-level and lateral candidates for one or more tenure-track or tenured faculty positions. Possible areas of particular interest include, but are not limited to, corporate law, corporate governance, commercial law, securities regulation, and other areas of business law. We will consider candidates with an interest in building upon our newly devised Certificate Program in Corporate/Business Law. All applicants should have a distinguished academic background and either great promise or a record of excellence in both scholarship and teaching. We encourage applications from women, people of color, persons with disabilities, and others whose background, experience, and viewpoints would contribute to the diversity of our faculty. Contact: Professor Arthur Laby, Chair, Faculty Appointments Committee; Rutgers University School of Law; 217 North Fifth Street; Camden, NJ; 08102; firstname.lastname@example.org. Rutgers University is committed to a policy of equal opportunity for all in every aspect of its operations.
Monday, August 3, 2015
Should We Include More International Materials in the Basic Business Associations and Securities Regulation Courses?
Joan Heminway’s post last week about comparative corporate law got me thinking about international coverage in my own courses. Joan’s post reviewed a book designed for a stand-alone comparative corporate law course, but I’ve been wondering whether we should include more comparative material in the basic business associations and securities regulation courses.
The case for discussing the corporate and securities law of other countries is clear. Capital markets are becoming increasingly global. U.S. companies are selling securities in other countries and U.S. investors are investing in foreign companies. Initially, globalization affected primarily large multinational companies, but with the expanding use of the Internet to sell securities, even the smallest business can offer securities to investors in other countries.
Under the internal affairs rule, it’s the corporate law of the country of incorporation that’s important, no matter where the lawyer is practicing or where the corporation or the shareholder is located. And a company selling securities to investors outside the U.S. needs to consider the effect of other countries’ securities laws. Foreign counsel may be retained to deal with such issues, but shouldn’t the U.S. lawyer have at least a rudimentary understanding of foreign corporate and securities laws and how they differ from U.S. law?
I spend no time on comparative analysis in either my business associations or my securities regulation course.
I could blame the textbook authors. The book I use in Business Associations includes almost nothing about corporate law outside the United States. That’s typical. Franklin Gevurtz has written a wonderful supplement on comparative corporate law, Global Issues in Corporate Law, but business associations casebooks generally ignore comparative issues.
The book I use for Securities Regulation covers the application of U.S. registration requirements and antifraud rules to transactions outside the United States, but it doesn’t discuss foreign securities law. (A prior edition did, but that material was eliminated from the most recent edition.) This book’s approach is also typical. Other securities regulation casebooks cover the extraterritorial application of U.S. law, but offer little or no comparative analysis of the law of other jurisdictions.
The casebook authors ought to do more, but that’s an inadequate excuse. I include a lot of supplemental material that isn’t in the textbook, especially in Business Associations. It wouldn’t be too hard for me to create supplemental material to add a comparative perspective to my courses.
Perhaps this is just one of those areas where I have fallen into the rut of teaching what my professors taught me. My memory may be faulty, but I don’t recall any international coverage when I took those courses 30+ years ago—which is interesting, because my Corporations professor, Detlev Vagts, was a noted international law scholar.
But it’s mostly an issue of time. At most law schools, corporate and securities law is crammed into a few credit hours, unlike constitutional law other, more favored subjects I won’t name. I, like most corporate law teachers, don’t have the luxury of adding topics. It’s hard enough to cram agency, partnership, limited partnership, limited liability companies, corporations, and some securities law into a single four-hour Business Associations course.
Nevertheless, I’m going to review my coverage carefully and see if I can sneak in more comparative materials. In today’s global environment, even students in Nebraska ought to be exposed to at least some foreign corporate and securities law.
Thursday, July 30, 2015
Last week I attended a panel discussion with angel investors and venture capitalists hosted by Refresh Miami. Almost two hundred entrepreneurs and tech professionals attended the summer startup series to learn the inside scoop on fundraising from panelists Ed Boland, Principal Scout Ventures; Stony Baptiste, Co-Founder & Principal, Urban.Us, Venture Fund; Brad Liff, Founder & CEO, Fitting Room Social, Private Equity Expert; and (the smartest person under 30 I have ever met) Herwig Konings, Co-Founder & CEO of Accredify, Crowd Funding Expert. Because I was typing so fast on my iPhone, I didn’t have time to attribute my notes to the speakers. Therefore, in no particular order, here are the nuggets I managed to glean from the panel.
1) In the seed stage, it’s more than an idea but less than a business. If it’s before true market validation you are in the seed round. At the early stage, there has been some form of validation, but the business is not yet sustainable. Everything else beyond that is the growth stage.
2) The friend and family round is typically the first $50-75,000. Angels come in the early stage and typically invest up to $500,000.
3) The seed rounds often overlap with angels and businesses can raise from $500,000 to $1,000,000. If you have a validated part of a business model but are not self funding then you are at Series A investment stage. You still need outside capital despite validation. The Series A round often nets between $3-5 million and then there are subsequent rounds for growth until the liquidity event which is either the IPO or acquisition.
4) Venture capitalists are investing their LPs' money and often the LP will co-invest with the VC. Their ultimate goal is for the company to get acquired or go public.
5) At the early stages some VCs will show a deal to other investors if it looks good. Later stage VCs will become more competitive and will keep the information and good deals to themselves.
6) It’s important to find a lead investor or lead angel to champion your idea.
7) Not all funding is helpful. Some panelists discussed the concepts of “fallen angels” or “devils,” which were once helpful but now are not providing value but still take up time and energy that could be better spent focusing on building the business. “False angels” are those who could never have been helpful in the first place.
8) You don’t want to be the first or the last check the angel is writing. You want to get references on the angel investor and see where they have invested and what their plan is for you.
9) There is smart money and dumb money. Smart money gives money and additional resources or value. Dumb money just gives money and nothing else. It’s passive and doesn’t jump into the business (note the panelists disagreed as to whether this was a good or bad thing). Another panelist noted the distinction between helpful and harmful money. Harmful people think they are helpful and give advice when they don’t have a lot to add but take up a lot of time. Sometimes helpful money just gives a check and then gets out of the way. It’s the people in between that can cause the problems.
10) VCs and angels invest in teams as well as ideas. They look for the right fit and a mix of veteran entrepreneurs, a team/product fit, a mix of technical and nontechnical people, professionals whose reputations and resumes can be verified. They want to know whether the people they are investing in have been in a competitive environment and have learned from success or failure.
11) Crowdfunding can be complicated because investors don’t meet the entrepreneurs. They see everything on the web so the reputation and the need for a good team is even more important.
12) Convertible notes are the “gold standard” according to one speaker and it’s the workhorse for funding. There was some discussion of safe notes, but most panelists didn't have a lot of experience with them and that was echoed this week by attorney David Salmon, who advises small businesses and holds his own monthly meetups. One panelist said that the sole purpose of safe notes was to avoid landmines that can blow up the company. Another panelist indicated that from an investor standpoint it’s like a blackhole because it’s so new and people don’t know what happens if something goes wrong.
13) The panelists indicated that businesses need to watch out for: the maturity date for their debt (how long is the runway); when can the investors call the note and possibly bankrupt the company; how will quirky covenants affect the next round of financing and where later investors will fall in line; and covenants that are easy to violate.
14) There was very little discussion of Regulation A+ but it did raise some interest and the possibility to raise even more funds from non-accredited investors. Only 3% of the eight million who can invest through crowdfunding actually do, so Reg A+ may help with that.
16) All of the panelists agreed that entities may start out as LLCs but they will have to convert to a C Corp to get any VC funding.
There was a lot more discussion but this post is already too long. Because I've never been an angel nor sought such funding, I don’t plan to provide any analysis on what I’ve typed above. My goal in attending this and the other monthly events like this was to learn from the questions that entrepreneurs ask and how the investors answer. Admittedly, most of my students won’t be dealing with these kind of issues, but I still introduce them to these concepts so they are at least familiar with the parlance if not all of the nuances.
July 30, 2015 in Business Associations, Corporate Finance, Corporate Governance, Corporations, Current Affairs, Entrepreneurship, Financial Markets, International Business, Law School, Legislation, LLCs, Securities Regulation, Teaching | Permalink | Comments (0)
Tuesday, July 28, 2015
A lawyer representing Fordham Law School Professor (and Riverbed Technology shareholder) Sean Griffith argued in Delaware court that a class action settlement related to Riverbed Technology's $3.6 billion sale to private equity firm Thoma Bravo was bad for shareholders and good for the lawyers involved, Reuters reports.
Prof. Griffith told Reuters that "he has been buying stock of companies that have announced merger deals and intends to object to settlements if he feels the litigation is not serving stockholders." He asserts that the shareholders' attorneys "are in cahoots" to reach a settlement, without regard to value.
This raises some interesting questions of law and policy with regard to the Professor's role here. As a shareholder, Griffith has the right to object (assuming his time of ownership satisfies the applicable statute). But how should a court assess the objection of a shareholder who has admitted that he bought stock for the purpose of objecting to settlements not in the interests of shareholders, when that shareholder has expressed ideological concern about the value of all disclosure-only settlements?
Is Prof. Griffith's desire to protect shareholders a desire to enhance short- or long-term wealth of the entity from greedy lawyers and bad managers? Or is it a desire to punish those who abuse class action lawsuits to their own ends? Both would be reasonable motivations (though, for now, I reserve judgment on whether either assessment is accurate), but it seems that the law might view such motivations differently.
Take, for example, Pillsbury v. Honeywell, Inc., 191 N.W.2d 406 (1971), which strikes me as similar in concept, if not law. In that case, the court rejected Charles Pillsbury's request to access the company shareholder list and review books and records of Honeywell. The request was expressly related to Pillsbury's anti-war efforts, and Pillsbury made clear that he sought the records because he thought Honeywell's activities in weapons were immoral. The court denied access stating that
petitioner had already formed strong opinions on the immorality and the social and economic wastefulness of war long before he bought stock in Honeywell. His sole motivation was to change Honeywell's course of business because that course was incompatible with his political views. If unsuccessful, petitioner indicated that he would sell the Honeywell stock.
We do not mean to imply that a shareholder with a bona fide investment interest could not bring this suit if motivated by concern with the long- or short-term economic effects on Honeywell resulting from the production of war munitions. Similarly, this suit might be appropriate when a shareholder has a bona fide concern about the adverse effects of abstention from profitable war contracts on his investment in Honeywell.
If Prof. Griffith is looking to protect the long-term interests of all companies by protecting merging companies from harmful class action settlements, and his mechanism is buying shares in companies that he has reason to believe will merge, then perhaps his Robin Hood-like actions (in that the actions seek to return funds to the rightful owners) have value for shareholder wealth maximization and entity wealth maximization. The fact that he holds out the possibility that he won't object to settlements where the litigation serves the purposes of the shareholder suggests he might be in this camp.
But what if he will object to all settlement proposals? Or perhaps all disclosure-only settlement proposals, even where such settlements are allowable under the law? Does this convert his actions to more of a Charles Pillsbury-like feel in that his actions are about opposing class actions settlements, regardless of whether settlement is in the best interest of the parties?
Of course, his motivations don't necessarily matter under current law in this area, but I can't help but think the motivations will influence how a court views (and eventually decides upon) Prof. Griffith's objections. And I think they should. If, in any given case, Prof. Griffith is right that the settlement is not in the best interest of the shareholders, the court should uphold his objections. But, under current law, it's possible that a disclosure-only settlement might still be the most efficient outcome. It's the court's job to assess that in each case.
Thursday, July 16, 2015
Love him or hate him, you can’t deny that President Obama has had an impact on this country. Tomorrow, I will be a panelist on the local public affairs show for the PBS affiliate to talk about the President’s accomplishments and/or failings. The producer asked the panelists to consider this article as a jumping off point. One of the panelists worked for the Obama campaign and another worked for Jeb Bush. Both are practicing lawyers. The other panelist is an educator and sustainability expert. And then there’s me.
I’ve been struggling all week with how to articulate my views because there’s a lot to discuss about this “lame duck” president. Full disclosure—I went to law school with Barack Obama. I was class of ’92 and he was class of ’91 but we weren’t close friends. I was too busy doing sit-ins outside of the dean’s house as a radical protester railing against the lack of women and minority faculty members. Barack Obama did his part for the movement to support departing Professor Derrick Bell by speaking (at minute 6:31) at one of the protests. I remember thinking then and during other times when Barack spoke publicly that he would run for higher office. At the time a black man being elected to the president of the Harvard Law Review actually made national news. I, like many students of all races, really respected that accomplishment particularly in light of the significant racial tensions on campus during our tenure.
During my stint in corporate America, I was responsible for our company’s political action committee. I still get more literature from Republican candidates than from any other due to my attendance at so many fundraisers. I met with members of Congress and the SEC on more than one occasion to discuss how a given piece of legislation could affect my company and our thousands of business customers. My background gives me what I hope will be a more balanced set of talking points than some of the other panelists. In addition to my thoughts about civil rights, gay marriage, gun control, immigration reform, Guantanamo, etc., I will be thinking of the following business-related points for tomorrow’s show:
1) Was the trade deal good or bad for American workers, businesses and/or those in the affected countries? A number of people have had concerns about human rights and IP issues that weren’t widely discussed in the popular press.
2) Dodd-Frank turns five next week. What did it accomplish? Did it go too far in some ways and not far enough in others? Lawmakers announced today that they are working on some fixes. Meanwhile, much of the bill hasn’t even been implemented yet. Will we face another financial crisis before the ink is dried on the final piece of implementing legislation? Should more people have gone to jail as a result of the last two financial crises?
3) Did the President waste his political capital by starting off with health care reform instead of focusing on jobs and infrastructure?
4) Did the President’s early rhetoric against the business community make it more difficult for him to get things done?
5) How will the changes in minimum wage for federal contractors and the proposed changes to the white collar exemptions under the FLSA affect job growth? Will relief in income inequality mean more consumers for the housing, auto and consumer goods markets? Or has too little been done?
6) Has the President done enough or too much as it relates to climate change? The business groups and environmentalists have very differing views on scope and constitutionality.
7) What will the lifting of sanctions on Cuba and Iran mean for business? Both countries were sworn mortal enemies and may now become trading partners unless Congress stands in the way.
8) Do we have the right people looking after the financial system? Is there too much regulatory capture? Has the President tried to change it or has he perpetuated the status quo?
9) What kind of Supreme Court nominee will he pick if he has the chance? The Roberts court has been helpful to him thus far. If he gets a pick it could affect business cases for a generation.
10) Although many complain that he has overused his executive order authority, is there more that he should do?
I don’t know if I will have answers to these questions by tomorrow but I certainly have a lot to think about before I go on air. If you have any thoughts before 8:30 am, please post below or feel free to email me privately at email@example.com.
July 16, 2015 in Constitutional Law, Corporate Finance, Corporate Governance, Corporations, Current Affairs, Financial Markets, International Business, Marcia Narine, Securities Regulation, Television, White Collar Crime | Permalink | Comments (0)
Wednesday, July 15, 2015
I read with interest the recently released opinion of the U.S. Court of Appeals for the Third Circuit in Trinity Wall Street v. Walmart Stores, Inc. The Wall Street Journal covered the publication of the opinion earlier in the month, and co-blogger Ann Lipton wrote a comprehensive post sharing her analysis on the substance of the decision over the weekend. (I commented, and Ann responded.) Of course, like Ann, as a securities lawyer, I was interested in the court's long-form statement of its holding and reasoning in the case. But I admit that what pleased me most about the opinion was its use of legal scholarship written by my securities regulation scholar colleagues.
Tom Hazen's Treatise on the Law of Securities Regulation is cited frequently for general principles. This is, as many of you likely already know, an amazing securities regulation resource. I also will note that many of my students find Tom's hornbook helpful when they are having trouble grappling with securities regulation concepts covered in the assigned readings in my class.
Donna Nagy's excellent article on no-action letters (Judicial Reliance on Regulatory Interpretation in S.E.C. No-Action Letters: Current Problems and a Proposed Framework, 83 Cornell L. Rev. 921 (1998)) also is cited by the court. This piece is not praised enough, imho, for the work it does in the administrative process area of securities law. I see the citations in the opinion as an element of needed praise.
And finally, Alan Palmiter's scholarship also is cited numerous times in the opinion. Specifically, the court quotes from and otherwise cites to The Shareholder Proposal Rule: A Failed Experiment in Merit Regulation, 45 Ala. L. Rev. 879 (1994). Again, this work represents an important, under-appreciated scholarly resource in securities law.
At least one other law review article is cited once in the opinion.
[Note: Alison Frankel also points out that Vice Chancellor Laster cites formatively to a paper co-authored by Jill Fisch, Sean Griffith, and Steve Davidoff Solomon in a recent opinion. More evidence that our work matters, at least to the judiciary.]
As Ann's post notes, the Trinity opinion also is worth reading for its substance. In addition to the matters Ann mentions, the opinion includes, for example, a lengthy, yet helpful, history of the ordinary business exclusion under Rule 14a-8. And the analysis is instructive, even if unavailing (unclear in its moorings and effect in individual cases).
Finally, it's worth noting that the opinion is drafted with a healthy, yet (imv) professional, dose of humor. The opinion begins, for example, as follows:
“[T]he secret of successful retailing is to give your customers what they want.” Sam Walton, SAM WALTON: MADE IN AMERICA 173 (1993). This case involves one shareholder’s attempt to affect how Wal-Mart goes about doing that.
And the conclusion of the opinion includes the following passage that made me smile:
Although a core business of courts is to interpret statutes and rules, our job is made difficult where agencies, after notice and comment, have hard-to-define exclusions to their rules and exceptions to those exclusions. For those who labor with the ordinary business exclusion and a social-policy exception that requires not only significance but “transcendence,” we empathize.
(This is part of the "scolding" Ann references in her post.)
Read the concurring opinion of Judge Shwartz, too. It is thoughtful (even if not entirely helpful, as Ann notes) in making some nice additional points worth considering.
Saturday, July 11, 2015
I noted with favor the other day (to myself, privately) the helpful and interesting commentary on The Glom of our trusted colleague and co-blogger, Usha Rodrigues, regarding the recent press reports on Mylan N.V.'s related-party disclosures. As the story goes, a firm managed and owned in part by the Vice Chair of Mylan's board of directors sold some land to an entity owned by one of the Vice Chair's business associates for $1, and that entity turned around the same day and sold the property to Mylan for its new headquarters for $2.9 million. Usha's post focuses on both the mandatory disclosure rules for related-party transactions and the mandatory disclosure rules on codes of ethics. Two great areas for exploration.
A reporter from the Pittsburgh Tribune-Review called me Thursday to talk about the Mylan matter and some related disclosure issues. He and I spoke at some length yesterday. That press contact resulted in this story, published online late last night. The reporter was, as the story indicates, interested in prior related-party disclosures made by Mylan involving transactions with family members of directors. This led to a more wide-ranging discussion about the status of family members for various different securities regulation purposes. It is from this discussion that my quote in the article is drawn. But our conversation covered many other interesting, related issues.
Monday, July 6, 2015
I have been reading Paul Mahoney’s brilliant new book, Wasting a Crisis: Why Securities Regulation Fails (University of Chicago Press 2015). You should too.
Mahoney attacks the traditional market failure rationale for our federal securities laws. He argues that contrary to the traditional narrative, market manipulation was not rampant prior to 1933 and the securities markets were operating reasonably well. Mahoney concludes that “‘lax’ regulation was not a substantial cause of the financial problems accompanying the Great Depression and . . . most (although not all) of the subsequent regulatory changes were largely ineffective and in some cases counterproductive.”
Mahoney looks at state blue sky laws, the Securities Act, the Exchange Act, the Public Utility Holding Company Act, and, regrettably only briefly, the Investment Company Act. He concludes by discussing the Sarbanes-Oxley and Dodd-Frank Acts. He discusses the rationales for each regulation and whether those rationales are supported by the facts. Mahoney backs up his argument with a great deal of empirical research, some of which has appeared in earlier articles. Warning: Some of that discussion may be a little difficult for those without a background in regression analysis or financial economics, but you can follow Mahoney’s conclusions without understanding all of the analytical detail.
Mahoney’s work is a nice counterpoint to the narrative that prevails in most securities treatises and casebooks. Every law library should have a copy. Everyone interested in securities regulation policy, and certainly everyone who teaches a securities law course, should read this book. Whether or not you ultimately agree with Mahoney (as it happens, I generally do), his arguments must be dealt with.
Wednesday, July 1, 2015
As I earlier noted, on June 23rd, I moderated a teleconference on proposals to shorten the Section 13(d) reporting period, currently fixed by statute and regulation at 10 days. If you don't mind registering with Proxy Mosaic, you can listen to the program. The link is here.
The discussion was lively--as you might well imagine, given that one of the participants represents activist shareholders and the other represents public companies. A number of interesting things emerged in the discussion, many (most) of which also have been raised in other public forums on Schedule 13D, including those referenced and summarized here, here, and here, among other places.
- Exactly how does the Section 1d(d) reporting requirement protect investors or maintain market integrity or encourage capital formation? Or is it just a hat-tipping system to warn issuers about potential hostile changes of control, chilling the potential for the market for corporate control to run its natural course? Of course, the answer to many questions about Section 13(d) depends on our understanding of the policy interests being served. It's hard to tinker with the reporting system if we cannot agree on the objectives it seeks to achieve . . . . (Read the remaining bullets with this in mind.)
- We're not in the 1960s, 1970s, or 1980s any more. If market accumulations are deemed to present dangers to investors today (and that case needs to be made), why are they not just an accepted risk of public market participation? Shouldn't every investor know that market accumulations are a risk of owning publicly traded securities? And how does the reporting requirement really protect them from harm? Is this just over-regulation that treats investors as nitwits?
- Not all activist investors are the same. Some act or desire to act as a Section 13(d) group; others don't. Some seek effective or actual control of an issuer; some don't.
- Provisions within the Section 13(d) filing requirements interact. So, can we really talk about decreasing disclosure time periods without also talking about triggering thresholds and mandatory disclosure requirements?
- Why is 5% beneficial ownership the triggering threshold for reporting? What's the magic in that number--and if it were to be changed, should it be lower or higher?
- Schedule 13D is a disclosure form fraught with complexity. Many important judgment calls may have to be made in completing the required disclosures accurately and completely, depending on the circumstances. Is all this complexity needed? In particular, can the Item 4 disclosure requirement be simplified? And is the group concept necessary?
- What is the value, if any, in looking at the issue from a comparative global regulatory viewpoint? Toward the end of the call, international comparisons were increasingly being made and used as evidence that a change in U.S. regulation is needed or desirable. But are other markets and systems of regulation enough like ours for these comparisons to work? E.g., although other countries require Schedule 13D-like filings fewer days after attainment of a triggering threshold of ownership, does that mean we also should reduce the time period for mandatory disclosure here in the U.S.?
Lots of questions; I am beginning to think through answers. Regardless there's much food for thought here. Any reactions? What do you think, and why?
Tuesday, June 30, 2015
Last week, S.E.C Commissioner Daniel M. Gallagher, gave a speech, Activism, Short-Termism, and the SEC: Remarks at the 21st Annual Stanford Directors’ College. I agree with many of Commissioner Gallagher's views on short-termism, and (I will semi-shamelessly note) he cited one of my earlier posts about the role of activists on board decision making. In his remarks, he said, with regard to short-termsim (i.e., companies operating for short term rather than long-term gains):
The current picture is bleak . . .
Clearly, there’s a way for all the parties . . . to co-exist peacefully. The SEC sets a level playing field; companies manage themselves for the long-term with the vigorous oversight of the board; and activists put pressure on those companies that fall short of that ideal. Unfortunately, we are not in that happy place. Rather, there seems to be a predominance of short-term thinking at the expense of long-term investing. Some activists are swooping in, making a lot of noise, and demanding one of a number of ways to drive a short-term pop in value: spinning off a profitable division, beginning a share buy-back program, or slashing capital expenditures or research and development expenses. Having inflated current returns by eliminating corporate investments for the future, these activists can exit their investment and move on.
. . . .
 See, e.g., Joshua Fershee, Shareholder Activists Can Add Value and Still Be Wrong (Apr. 28, 2015) (positing that activists can signal to boards when the company’s strategy may be inefficient; it is then the board’s responsibility to “use the tools before it to make decisions in the best interests of the entity” — that shareholder activists can improve long-term value even if following their recommendations blindly would not).
I absolutely agree with the Commissioner that too many companies are using a short-term philosophy to guide their decision making and that directors are allowing non-controlling institutional investors too much influence in the boardroom. But, as a believer in director primacy, I see that as a director failure, not an S.E.C. failure or an institutional investor/activist failure. Directors need to make the decisions for the entity based on their view of what is best for the entity, not on someone else's view.
Commissioner Gallagher is spot on when he notes his concern "that some institutional investors are paying insufficient attention to their fiduciary obligations to their clients when they determine whether to support a particular activist’s activity."
That concern, though, has nothing to do with how the board of a company responds to its activist institutional investors that urge short-termist actions. The institutional investor activist in that case should be held accountable to its clients, and perhaps it should not be urging such behavior, but that is not relevant to how a board of a company in which an institutional investors owns stock responds to such pressure.
It could be that some boards really believe that short-termism is how best to run a company. The level of complaining about activists suggests otherwise, but then it is up to boards to reject the activist's requests. If boards are being unduly influenced by non-controlling outside forces, then shareholders need to take a break from their rational apathy, and do something. If controlling shareholders are pushing short termism to the detriment of non-controlling shareholders, boards should not follow the controlling shareholder's request or (again) non-controlling shareholders need to push back to ensure the board and the controlling shareholders are honoring their fiduciary obligations.
If it's just that directors like short termism as a strategy, though, and it's not a decision made for any other reason than directors think it's the right one, I believe those directors are wrong. But that's not my call. I'm not on the board.
Thursday, June 18, 2015
Last week I posted the first of three posts regarding doing business in Cuba. In my initial post I discussed some concerns that observers have regarding Cuba’s readiness for investors, the lack of infrastructure, and the rule of law issues, particularly as it relates to Cuba’s respect for contracts and debts. Indeed today, Congress heard testimony on the future of property rights in Cuba and the claims for US parties who have had billions in property confiscated by the Castro government- a sticking point for lifting the embargo. (In 1959, Americans and US businesses owned or controlled an estimated 75-80% of Cuban land and resources). Clearly there is quite a bit to be done before US businesses can rush back in, even if the embargo were lifted tomorrow. This evening, PBS speculated about what life would be like post-embargo for both countries. Today I will briefly discuss the Cuban legal system and then focus the potential compliance and ethical challenges for companies considering doing business on the island.
Cuba, like many countries, does not have a jury system. Cuba’s court system has a number of levels but they have both professional judges with legal training, and non-professional judges who are lay people nominated by trade unions and others. Cubans have compulsory service to the country, including military service for males. Many law graduates serve part of their compulsory service as judges (or prosecutors) and then step down when they are able. The lay judges serve for five years and receive a full month off from their employer to serve at full pay. Although there is a commercial court, only businesses may litigate there and are then they are at the mercy of the lay judges, who have equal power to the professional jurists. This lay judge system exists even at the appellate level. Most lawyers and law firms are controlled by the Cuban government, unless they work for a non agcricultural cooperative. More important, although I have received differing opinions from counsel, it is possible that hiring and paying a local lawyer there could violate US law related to doing business in Cuba. Notwithstanding these obstacles, many companies are trying to get an OFAC license to do business in Cuba right away or are planning for the eventual life of the embargo. In my view, getting there is the easy part. The hard part will be complying with US law, not because Cuba is in a nascent state of legal and economic development, but because of the sheer complexity of doing business with a foreign government.
The first challenge that immediately comes to mind is compliance with the Foreign Corrupt Practices Act, which makes it illegal for a person or company to make “corrupt payments” or provide “anything of value” to a foreign official in order to obtain or retain business. Since almost everything is a state-owned enterprise or a joint venture with a state owned enterprise, US firms take a real risk entering into contracts or trying to get permits. There is no de minimis exception and facilitation payments- otherwise known as grease payments to speed things along- while customary in many countries- are illegal too. Legal fees and fines for FCPA violations are prohibitively expensive, and those companies doing business in Cuba will surely be targets.
Another concern for publicly-traded US companies is compliance with the Sarbanes-Oxley and Dodd-Frank whistleblower rules. Unless the law changes, most US companies will have to follow the model of Canadian and EU companies and enter into joint ventures or some contractual relationship with the Cuban government or a Cuban company (which may be controlled by the government). Most US employees are afraid to report on their own private employers in the US. How comfortable will a Cuban employee be using a hotline or some other mechanism to report wrongdoing when his employer is in some measure controlled by or affiliated with the Cuban government? As I will discuss next week, the biggest criticism of Cuba is its human rights record related to those who dissent. I have personally dealt with the challenge establishing and working with hotlines in China and in other countries where speaking out and reporting wrongdoing is not the cultural norm. I can imagine that in Cuba this could be a herculean task.
The last concern I will raise in this post relates to compliance with a company’s own code of conduct. If a company has a supplier code of conduct that mirrors its own, and those codes discuss freedom of association and workers’ rights that may be out of step with the Cuban law or culture, should the US firm conform to local rules? Even if that is legal, is it ethical? Google's code is famous for its “don’t be evil”credo and it has received criticism in the past from NGOs who question how it can do business in China. But Google was in Cuba last week testing the waters. Perhaps if Google is able to broaden access to the internet and the outside world, this will be a huge step for Cubans. (Of note, Cubans do not see the same TV as the tourists in their hotels and there are no TV commercials or billboards for advertisements).
There are a number of other compliance and ethics challenges but I will save that for my law review article. Next week’s post will deal with the role of foreign direct investment in spurring human rights reform or perpetuating the status quo in Cuba.
Wednesday, June 17, 2015
In response to one of my posts last week, co-blogger Josh Fershee raised concern about making minor changes to securities regulation--in that case, in the context of the tender offer rules. Specifically, after raising some good questions about the teaser questions in a marketing flyer regarding a program I am moderating, he adds:
This reflects my ever-growing sense that maybe we should just take a break from tweaking securities laws and focus on enforcing rules and sniffing out fraud. A constantly changing securities regime is increasingly costly, complex, and potentially counterproductive.
Admittedly, I am not that close to this, so perhaps I am missing something big, but I’m thinking maybe we should just get out of the way (or, probably better stated, keep the obstacles we have in place, because at least everyone knows the course).
Although I pushed back a bit, I generally agree with his premise (and I told him so). I will leave the niceties regarding the tender offer rule at issue for another day--perhaps blogging on this after the moderated program takes place. But in the mean time, I want to think a bit more out loud here about Josh's idea that, e.g., mandatory disclosure and substantive regulation should be minimal and fraud regulation should be paramount. Not, of course, a new idea, but a consideration that all of us who are honest securities policy-makers and scholars must address.
SEC Commissioner Kara M. Stein provided remarks at the Brookings Institute's 75th Anniversary of the Investment Company Act on Monday, June 15th. Now if that isn't an exciting introduction to a post, I just don't know what is. She addressed a topic that is of great interest to me and a focus of my research: retail/retirement investors. I tend to call them Citizen Shareholders in my writing, and it is sentiment shared by Commissioner Stein:
"By retail investor, I mean the everyday citizen or household that is investing – not institutional investors or pension funds. Eighty-nine percent of mutual fund assets are attributable to retail investors." (emphasis added).
In her remarks she detailed several troubling aspects of the mutual fund industry--a primary investment source for retail investors-- liquidity, leverage and disclosure. She also highlighted future SEC rule making initiatives related to these issues. For example, the Commission recently proposed new rules to enhance data reported to the Commission by registered funds. The proposed rule is available here (Download SEC proposed disclosure rules) and received comments can be tracked on the SEC's website here.
Noting that a major function of the 1940 Investment Act was transparency and accuracy through disclosures, she lamented the mission drift in the mutual fund industry which she described as:
"[T]he liquidity of registered funds is one area where it seems that regulation has drifted into “buyer beware.” A retail investor looks at a mutual fund and expects that he or she will be able to get money out of a fund very quickly if needed. A retail investor is generally not performing cash flow analyses on mutual funds to test their true liquidity."
SEC rules require redemption within 7 days and only 15% of mutual fund assets can be invested in illiquid funds. Bank loans and ETF funds, increasingly dramatically in popularity since 2009 (by over 400%) take over one month to settle and thus threaten the redemption rights and liquidity of funds in times of financial stress.
Additional "drift" comes from interpretation that the 15% threshold is at the time of purchase, not at the time of settlement so there is no true 15% threshold.
Promising high liquidity, which all mutual funds must do, on illiquid assets, that have not traditionally been a part of mutual funds, does not seem in keeping with the intent of the Investment Company Act.
Commissioner Stein identified a second problem: leverage. Another cornerstone principle in mutual fund regulation has been the requirement for relatively low leverage, as mandated by Section 18 of the Investment Company Act. Section 18 of the Investment Company Act requires low leverage with senior securities mandating a coverage ratio of 3:1 (300% asset coverage for senior securities). Commissioner Stein described the SEC's enforcement on leverage restrictions as "ad hoc" beginning in 1970 through the 30 subsequent no-action letters issued by the Commission.
Additionally Commissioner Stein addressed the rapid evolution and popularity of alternative mutual funds that attempt to mimic hedge fund returns based on mutual fund liquidity: propositions that she finds troubling.
Assets under management in alternative mutual funds have exploded in recent years. In 2008, there were approximately $46 billion in assets under management for these funds. By the end of 2014, the number had surged to over $311 billion in assets under management. This is an increase of over 575%.
[T]oday, alternative mutual funds promising the upside of hedge fund investments with the liquidity of traditional mutual funds are all the rage. I think that this trend should give everyone pause, and regulators and the public need to be asking questions about this development. ..... Should we consider regulating these funds differently than plain vanilla, traditional mutual funds?
Commissioner Stein's remarks highlight several areas in the mutual fund industry that are being reevaluated by the SEC and should be interested developments to watch if you are an attorney representing mutual fund companies and investment advisers, an academic or simply an average "retail" investor.
Wednesday, June 10, 2015
Courtesy of AALS Section on Securities Regulation Chair Christine Hurt:
Call for Papers
AALS Section on Securities Regulation - 2016 AALS Annual Meeting
January 6-10, 2016 New York, NY
The AALS Section on Securities Regulation invites papers for its program on “The Future of Securities Regulation: Innovation, Regulation and Enforcement.”
TOPIC DESCRIPTION: This panel discussion will explore the current trends and future implications in the securities regulation field including transactional and financial innovation, the regulation of investment funds, the intersection of the First Amendment and securities law, the debate over fee-shifting bylaws, the ever-expanding transactional exemptions including under Regulation D, and judicial interpretations of insider trading laws. The Executive Committee welcomes papers (theoretical, doctrinal, policy-oriented, empirical) on both the transactional and litigation sides of securities law and practice.
ELIGIBILITY: Full-time faculty members of AALS member law schools are eligible to submit papers. Pursuant to AALS rules, faculty at fee-paid law schools, foreign faculty, adjunct and visiting faculty (without a full-time position at an AALS member law school), graduate students, fellows, and non-law school faculty are not eligible to submit. Please note that all faculty members presenting at the program are responsible for paying their own annual meeting registration fee and travel expenses. NOTE FURTHER, AALS has announced reduced registration fees for junior faculty for the 2016 conference.
PAPER SUBMISSION PROCEDURE: Up to four papers may be selected from this call for papers. There is no formal requirement as to the form or length of proposals. However, more complete drafts will be given priority over abstracts, and presenters are expected to have a draft for commentators two weeks prior to the beginning of the AALS conference.
Papers will be selected by the Section's Executive Committee in a double-blind review. Please submit only anonymous papers by redacting from the submission the author's name and any references to the identity of the author. The title of the email submission should read: "Submission - 2016 AALS Section on Securities Regulation."
Please email submissions to the Section Chair Christine Hurt at: firstname.lastname@example.org on or before August 21, 2015.
Monday, June 8, 2015
I was reading an article on securities crowdfunding in China and came across this description of Chinese practice:
Generally, in China, equity-based crowdfunding capital-seekers rely on the strength of experienced, leading investors to advise “follow-up” investors in locating investment projects. Leading investors are usually professionals with rich experience in private offerings and label themselves as holding innovative techniques in investment strategies and possessing sound insights. On the contrary, follow-up investors usually do not have even basic financial skills, but they do ordinarily control certain financial resources for investment. When a leading investor selects a target investment project through an equity-based crowdfunding platform, the leading investor usually invests personal funds into the project. Crowdfunding capital- seekers then take advantage of the leading investor’s funds to market the project to follow-up investors.
(This is from a recent article by Tianlong Hu and Dong Yang, The People’s Funding of China: Legal Developments of Equity Crowdfunding-Progress, Proposals, and Prospects, 83 U. CIN. L. REV. 445 (2014).)
This is not unique to China. Private offerings to accredited investors in the United States often follow a similar path. Smaller investors are more likely to commit once a well-known, sophisticated investor has made a commitment. But the article made me wonder if we could use that structure to create a new securities offering exemption—one that responds to some of the policy concerns people have about the existing exemptions.
Most unregistered primary offerings of securities in the United States are pursuant to Rule 506 of Regulation D, the regulatory safe harbor for the private offering exemption in the Securities Act. Offerings pursuant to Rule 506, either by law [Rule 506(c)] or for practical reasons [Rule 506(b)], are limited to “accredited investors,” a defined term.
Many people have argued that the definition of accredited investor in Regulation D is too broad. Some of the investors covered by the definition are sophisticated institutional investors who clearly can fend for themselves. But the definition also includes many unsophisticated individuals who meet relatively low net worth and income requirements. Many of these investors, it is argued, cannot adequately evaluate the merits and risks of Rule 506 private offerings.
On the other hand, some people have complained that limiting these offerings to accredited investors privileges wealthy people at the expense of “ordinary” investors. Rich people have the opportunity to participate in these sometimes-lucrative offerings, but the rest of us cannot. That was one of the arguments for the not-yet-implemented section 4(a)(6) crowdfunding exemption added by the JOBS Act.
One way to resolve the tension between these two arguments, and deal with both concerns, would be to allow unsophisticated investors to invest in an offering only after a sophisticated investor has made a commitment. Ordinary investors might not be able to protect themselves, but they could free ride on the sophisticated investor’s evaluation of the offering.
We could create a new category of super-accredited investors, consisting only of institutions or individuals who clearly have the sophistication to protect themselves. Once one of those investors purchases a significant stake in an offering, other investors could purchase on the same terms.
For example, if Startup Corporation wanted to raise $50 million in an unregistered offering, it could first sell $10 million of the securities to a large venture capital firm. After that, it would be free to sell the remaining $40 million on the same terms to any investor, accredited or non-accredited, wealthy or not.
The lead investor’s evaluation of the offering wouldn’t completely protect the other investors. In particular, the lead investor’s tolerance for risk might be much higher than most ordinary investors’. But lead investor's evaluation would help protect against fraud and overreaching by the issuer.
The exemption would have to include some additional requirements to make sure that the other investors can reasonably rely on the lead investor’s decision to invest:
1. No conflicts of interest. The lead investor could not have a relationship to the issuer. Otherwise, the lead investor’s decision to invest might be due to that relationship, not because it believes the investment is a good one.
2. Minimum Investment. There should be a minimum investment requirement for the lead investor, to give the lead investor sufficient incentive to review the deal. To take an extreme example, a lead investor’s decision to invest $1 in a $50 million offering tells us little about the quality of the deal.
3. Same Terms. The lead investor must be investing on the same terms as the subsequent investors. The lead investor’s decision that an investment is worthwhile offers no protection at all to subsequent investors if those subsequent investors are getting a materially different deal.
4. Exit. If the lead investor’s decision to invest provides a signal to the other investors, so does the lead investor’s decision to exit the investment. At a minimum, the lead investor should have to disclose to the other investors when it sells. And, if the issuer is repurchasing the lead investor’s securities, we might want to impose a requirement that the issuer also offer to repurchase the securities of the other investors who purchased in the exempted offering.
This is just a sketch of what such an exemption would look like, about as far as one can go in a blog post. The proposed exemption would not be perfect. It wouldn’t guarantee that investors were getting a good deal, or even that the offering was not fraudulent. But even registration can’t do that. And I think the proposal is a nice compromise between investor protection and capital formation concerns.
Friday, May 29, 2015
A while ago, I noted a New York Times article about the effect of SEC Chair Mary Jo White's recusals from cases because of her husband's work at Cravath. The Times has a follow-up today. Apparently, the 2-2 split that results when Ms. White recuses herself is causing some real enforcement headaches, including missing a statute-of-limitations deadline.