Friday, February 16, 2018

Corporate Governance, Compliance, Social Responsibility, and Enterprise Risk Management in the Trump/Pence Era

This may be obsolete by the time you read this post, but here are my thoughts on Corporate Governance, Compliance, Social Responsibility, and Enterprise Risk Management in the Trump/Pence Era. Thank you, Joan Heminway and the wonderful law review editors of Transactions: The Tennessee Journal of Business Law. The abstract is below:

With Republicans controlling Congress, a Republican CEO as President, a “czar” appointed to oversee deregulation, and billionaires leading key Cabinet posts, corporate America had reason for optimism following President Trump’s unexpected election in 2016. However, the first year of the Trump Administration has not yielded the kinds of results that many business people had originally anticipated. This Essay will thus outline how general counsel, boards, compliance officers, and institutional investors should think about risk during this increasingly volatile administration. 

Specifically, I will discuss key corporate governance, compliance, and social responsibility issues facing U.S. public companies, although some of the remarks will also apply to the smaller companies that serve as their vendors, suppliers, and customers. In Part I, I will discuss the importance of enterprise risk management and some of the prevailing standards that govern it. In Part II, I will focus on the changing role of counsel and compliance officers as risk managers and will discuss recent surveys on the key risk factors that companies face under any political administration, but particularly under President Trump. Part III will outline some of the substantive issues related to compliance, specifically the enforcement priorities of various regulatory agencies. Part IV will discuss an issue that may pose a dilemma for companies under Trump— environmental issues, and specifically shareholder proposals and climate change disclosures in light of the conflict between the current EPA’s position regarding climate change, the U.S. withdrawal from the Paris Climate Accord, and corporate commitments to sustainability. Part V will conclude by posing questions and proposing recommendations using the COSO ERM framework and adopting a stakeholder rather than a shareholder maximization perspective. I submit that companies that choose to pull back on CSR or sustainability programs in response to the President’s purported pro-business agenda will actually hurt both shareholders and stakeholders.

February 16, 2018 in Compliance, Corporate Governance, Corporate Personality, Corporations, CSR, Current Affairs, Employment Law, Marcia Narine Weldon, Securities Regulation, Shareholders | Permalink | Comments (0)

Monday, January 29, 2018

Teaching Disclosure Law to 3Ls - Sexual Misconduct and Risk Management

At The University of Tennessee College of Law, we have a four-credit-hour, four-module course called Representing Enterprises that is one of three capstone course offerings in our Concentration in Business Transactions.  In Representing Enterprises, each course module focuses on a different aspect of transactional business law, often a specific transaction or task.  We try to both ask the enrolled students to apply law that they have learned in other courses (doctrinal and experiential) and also introduce the students to applied practice in areas of law to which they have not or may not yet have been exposed.

I have been teaching the first module over the past few weeks.  We finish up tomorrow.  My module focuses on disclosure regulation.  I have five class meetings, two hours for each meeting, to cover this topic.  Each class engages students with a hypothetical that raises disclosure questions.

The first class focused on general rule identification regarding the applicable laws governing disclosure in connection with the purchase of limited liability membership interests.  Specifically, our client had bought out his fellow members of a member-managed Tennessee limited liability company at a nominal price and without giving them full information about a reality television opportunity our client had with his wife.  As things turned out, the television show was picked up and popularized the brand name of the limited liability company, making the husband and wife, over the next few years, significant income.  Now, of course, the former limited liability company members are contending that, had they known the complete facts, they would have demanded a higher price for their limited liability membership interests from our client.  The students did some nice, creative thinking here in identifying applicable legal rules, pointing to Tennessee limited liability company fiduciary duty law (although they missed our closely held limited liability company doctrine), federal and state securities law, business torts, potential contract law issues, etc.

Subsequent class meetings broke disclosure law down into component pieces commonly seen in a business transactional law context.  The second class centered on work for another client, a Delaware corporation, concerning fiduciary duty disclosure issues under Delaware corporate law in connection with a merger.  The third class focused on a client's obligations under mandatory disclosure and antifraud elements of the federal securities laws.  The fourth class involved a hypothetical that raises specialized disclosure regulation questions for a talent agency that is an indirect subsidiary of a New York Stock Exchange ("NYSE") listed company.  I may post later about the fifth class meeting, which will take place tomorrow.  It involves Uber's recently publicized data security breach and related disclosure matters.

I want to focus today on the fourth class meeting.  In that class, one of the things the students had to wrestle with was determining how the parent's status and regulation as a NYSE-listed firm might impact or be impacted by disclosure compliance at the subsidiary level.  The NYSE Listed Company Manual provides, e.g., 

202.03 Dealing with Rumors or Unusual Market Activity

The market activity of a company's securities should be closely watched at a time when consideration is being given to significant corporate matters. If rumors or unusual market activity indicate that information on impending developments has leaked out, a frank and explicit announcement is clearly required. If rumors are in fact false or inaccurate, they should be promptly denied or clarified. A statement to the effect that the company knows of no corporate developments to account for the unusual market activity can have a salutary effect. It is obvious that if such a public statement is contemplated, management should be checked prior to any public comment so as to avoid any embarrassment or potential criticism. If rumors are correct or there are developments, an immediate candid statement to the public as to the state of negotiations or of development of corporate plans in the rumored area must be made directly and openly. Such statements are essential despite the business inconvenience which may be caused and even though the matter may not as yet have been presented to the company's Board of Directors for consideration. . . .

Having identified this and other related rules, we posited situations in which operations or activities at the subsidiary level might require disclosure by the parent company under the NYSE listed company rules.  We dug in most specifically on what might lead to market rumors or cause unusual market activity.  Having just discussed in the prior class meeting disclosure standards under the federal securities laws, the students understood that materiality was a distinct, separate disclosure-triggering standard and that the parent firm might have different--even conflicting--disclosure obligations under the federal securities laws and the NYSE listed company rules.  With these observations as a foundation, I asked the students what types of conduct or information at the subsidiary level might generate market rumors or unusual market activity.

Given that the firm was a talent agency, I was not surprised when one of the first answers referenced the allegations against Harvey Weinstein.  The disparate pay issues relating to the Mark Wahlberg/Michelle Williams affair that I wrote about in a different context a few weeks ago (w/r/t which the same talent agency advised both actors) also came up.  In each case we tried to envision what the subsidiary should be disclosing to the parent, and when, to enable the parent to satisfy its NYSE obligations.  Among other things, we discussed the financial and non-financial impacts of the facts we were generating on the trading price and volume of parent's stock.  It was a great brainstorming session, imv.  By the end of class, we could see that a communication-oriented compliance plan for the subsidiary seemed to be in order.

Interestingly, the Steve Wynn story then broke the next day.  I was pleased in the aftermath to see this article in The New York Times that validated the nature of our discussion and the complexity involved in assessing market risk in these kinds of situations.

The question, though, is what specifically investors are now pricing in. One risk is that regulators make it difficult for Wynn Resorts to expand. The Massachusetts gaming watchdog said on Friday that it would review plans for a new casino in Boston.

The threat of parting ways with an influential executive, until now a reasonable steward of shareholder value, is also potent. Over the past decade, Wynn Resorts’ average 10.5 percent shareholder return is a shade higher than that of the Standard & Poor’s 500-stock index — despite a slump in 2014 after China toughened rules on holiday gamblers.

Investors’ strong response to the reports is now the problem of Wynn Resorts’ 10-person board, which contains just one woman. Others surely will learn from how the Wynn board responds.

My students did identify regulatory risk (and the rest of the class was spent talking about California and New York laws regulating talent agencies, which are regulated and require licensure) and the risks associated with an iconic founder or chief executive at the heart of a controversy.  I love it when current events dovetail with classroom activities!

Have any of you taught a course or course component like this before?  I would be interested to know.  I found it hard to teach the securities regulation issues to the students who were not interested in securities regulation work.  I tried to break the legal foundations down into relatively small policy and doctrinal chunks, and I told them that every business lawyer needs to know a little bit about securities regulation, whether advising or litigating in connection with business transactions.  But those who had not taken and were not taking our Securities Regulation course (a majority of the class) seemed to mentally almost shut down.  Some of that may be 3L-itis.  But I am rethinking how to engage students more happily with this part of the course.  I will be asking the students for help on this.  But any thoughts you have from your own experience (or otherwise) would be a great help to me as I think this through.

January 29, 2018 in Compliance, Current Affairs, Joan Heminway, Securities Regulation | Permalink | Comments (0)

Tuesday, January 9, 2018

Back to Reality and (Mostly) Staying the Course on Shareholder Proposals

The new semester is upon us, and AALS (as it tends to) ran right into the new semester.  Joan Heminway provided a nice overview of some of her activities, including her recognition as an outstanding mentor by the Section on Business Associations, and it was a pleasure to see her recognized for her tireless and consistent efforts to make all of us better.  Congratulations, Joan, and thank you! 

I, too, had a busy conference, with most of it condensed to Friday and Saturday. (As a side note, it was pretty great to run along the water in 55-65 degree weather. As much as I love New York and appreciate San Francisco and DC, I'd be quite content with AALS moving between San Diego and New Orleans.)  I spoke on a panel with my co-bloggers, as Joan noted, about shareholder proposals, and I spoke on a panel about the green economy and sustainability, which was also fun.  It's nice when I am able to spend some time with a focus on my two main areas of research. 

As to our panel on shareholder proposals, I thought I'd share a few of my thoughts.  First, as I have explained in the past, I am not anti-activist investor, even though I often think their proposals are wrong headed. I think shareholder (and hedge fund) activist can add value, even when they are wrong, as long as directors continue to exercise their judgment and lead the firm appropriately.   

Second, although I tend to have a bias for staying the course and leaving many laws and regulations alone, I am open to some changes for shareholder proposals. The value of the current system (especially one that has been in place for some time) is that everyone knows the rules, which means there is some level of efficiency for all the players.  

That said, the threshold for shareholder proposals has been in places since the 1950s.  The Financial Choice Act looks to move the proxy threshold from $2,000 and one-year holdings to a 1%/three-year hurdle.  That is a pretty big move. Updating the $2,000 threshold from 1960 would mean raising the threshold to around $16,000, so a move to what can be millions may be too much.  But $16,000 (basically updating for inflation), would make some sense to me, too.  Anyway, just a few simple thoughts to start the year. Hope your classes are starting well.  

January 9, 2018 in Corporations, Financial Markets, Joan Heminway, Joshua P. Fershee, Securities Regulation, Shareholders | Permalink | Comments (2)

Monday, January 8, 2018

AALS 2018 Wrap-Up

AALS2018(SHProposalPanel)

Last week, I had the privilege of attending and participating in the 2018 annual meeting of the Association of American Law Schools (#aals2018).  I saw many of you there.  It was a full four days for me.  The conference concluded on Saturday with the program captured in the photo above--four of us BLPB co-bloggers (Stefan, me, Josh, and Ann) jawing about shareholder proposals--as among ourselves and with our engaged audience members (who provided excellent questions and insights).  Thanks to Stefan for organizing the session and inspiring our work with his article, The Inclusive Capitalism Shareholder Proposal.  I learned a lot in preparing for and participating in this part of the program.

Earlier that day, BLPB co-blogger Anne Tucker and I co-moderated (really, Anne did the lion's share of the work) a discussion group entitled "A New Era for Business Regulation?" on current and future regulatory and de-regulatory initiatives.  In some part, this session stemmed from posts that Anne and I wrote for the BLPB here, here, and here.  I earlier posted a call for participation in this session.  The conversation was wide-ranging and fascinating.  I took notes for two essays I am writing this year.  A photo is included below.  Regrettably, it does not capture everyone.  But you get the idea . . . .

  AALS2018(Regulation)
In between, I had the honor of introducing Tamar Frankel, this year's recipient of the Ruth Bader Ginsburg Lifetime Achievement Award, at the Section for Women in Legal Education luncheon.  Unfortunately, the Boston storm activity conspired to keep Tamar at home.  But she did deliver remarks by video.  A photo (props to Hari Osofsky for getting this shot--I hope she doesn't mind me using it here) of Tamar's video remarks is included below.

Tamar(Video-HariO)

Tamar has been a great mentor to me and so many others.  She plans to continue writing after her retirement at the end of the semester.  I plan to post more on her at a later time.

On Friday, I was recognized by the Section on Business Associations for my mentoring activities.  On Thursday, I had the opportunity to comment (with Jeff Schwartz) on Summer Kim's draft paper on South Korean private equity fund regulation.  And on Wednesday, I started the conference with a discussion group entitled "What is Fraud Anyway?," co-moderated by John Anderson and David Kwok.  My short paper for that discussion group focused on the importance of remembering the requirement of manipulative or deceptive conduct if/as we continue to regulate securities fraud in major part under Section 10(b) of, and Rule 10b-5 under, the Securities Exchange Act of 1934, as amended.

That summary does not, of course, include the sessions at which I was merely in the audience.  Many of the business law sessions were on Friday and Saturday.  They were all quite good.  But I already am likely overstaying my welcome for the day.  Stay tuned here for any BLPB-reated sessions for next year's conference.  And in between, there's Law and Society, National Business Law Scholars, and SEALS, all of which will have robust business law programs.

Good luck in starting the new semester.  Some of you, I know, are already back in the classroom.  I will be Wednesday morning.  I know it will be a busy 14 weeks of teaching!

January 8, 2018 in Ann Lipton, Anne Tucker, Conferences, Corporate Governance, Joan Heminway, Joshua P. Fershee, Securities Regulation, Shareholders, Stefan J. Padfield | Permalink | Comments (0)

Monday, November 20, 2017

Resales of Crowdfunded Equity: A Market to Watch

The Oklahoma Law Review recently published an article I wrote for a symposium the law review sponsored last year at The University of Oklahoma College of Law.  The symposium, “Confronting New Market Realities: Implications for Stockholder Rights to Vote, Sell, and Sue,” featured a variety of presentations from some really exciting teacher-scholars, some of which resulted in formal published pieces.  The index for the related volume of the Oklahoma Law Review can be found here.  I commend these articles to you.

The abstract for my article, "Selling Crowdfunded Equity: A New Frontier," follows.

This article briefly offers information and observations about federal securities law transfer restrictions imposed on holders of equity securities purchased in offerings that are exempt from federal registration under the CROWDFUND Act, Title III of the JOBS Act. The article first generally describes crowdfunding and the federal securities regulation regime governing offerings conducted through equity crowdfunding — most typically, the offer and sale of shares of common or preferred stock in a corporation over the Internet — in a transaction exempt from federal registration under the CROWDFUND Act and the related rules adopted by the U.S. Securities and Exchange Commission. This regime includes restrictions on transferring securities acquired through equity crowdfunding. The article then offers selected comments on both (1) ways in which the transfer restrictions imposed on stock acquired in equity crowdfunding transactions may affect or relate to shareholder financial and governance rights and (2) the regulatory and transactional environments in which those shareholder rights exist and may be important.

Ultimately, the long-term potential for suitable resale markets for crowdfunded equity — whether under the CROWDFUND Act or otherwise — is likely to be important to the generation of capital for small business firms (and especially start-ups and early-stage ventures). In that context, three important areas of reference will be shareholder exit rights, public offering regulation, and responsiveness to the uncertainty, information asymmetry, and agency costs inherent in this important capital-raising context. Only after a period of experience with resales under the CROWDFUND Act will we be able to judge whether the resale restrictions under that legislation are appropriate and optimally crafted.

Those familiar with the literature in the area will note from the abstract that I employ Ron Gilson's model from "Engineering a Venture Capital Market: Lessons from the American Experience" (55 Stan. L. Rev. 1067 (2003)) in my analysis.

I know others are also working in and around this space.  I welcome their comments on the essay and related issues here and in other forums.  I also know that we all will "learn as we go" as the still-new CROWDFUND Act experiment continues.  Securities sold in the early days of effectiveness of the CROWDFUND Act (which became effective May 16, 2016) are just now broadly eligible for resale.  Stay tuned for those lessons learned from the school of "real life."

November 20, 2017 in Conferences, Corporate Finance, Joan Heminway, Securities Regulation, Web/Tech | Permalink | Comments (0)

Monday, October 30, 2017

Leidos - Trick, Not Treat?

The title of this post is hyperbole on some level.  But with Halloween being tomorrow, I couldn't resist the temptation to use a festive greeting to introduce today's post.  And there is a bit of a method to my titling madness . . . .

I admit that I do feel a bit tricked by the removal of the Leidos, Inc. v. Indiana Public Retirement System case (about which co-blogger Ann Lipton and I each have written--Ann most recently here and I most recently here) from the U.S. Supreme Court's calendar.  It was original scheduled to be heard a week from today.  Apparently, based on the related filings with the Court, the parties are documenting a settlement of the case.  Kevin LaCroix offers a nice summary here.  How cunning and skillful!  Just when I thought resolution of important duty-to-disclose issues in Section 10(b)/Rule 10b-5 litigation was at hand . . . .

Indeed, I had hoped for a treat.  What pleasure it would have given me to see this matter resolved consistent with my understanding of the law!  The issue before the Court in Leidos is somewhat personal for me (in a professional sense) for a simple reason--a reason consistent with the amicus brief I co-authored on the case.  I share that reason briefly here to further illuminate my interest in the case.

In my 15 years of practice before law teaching, I often advised public company issuers on mandatory disclosure documents--periodic filings and offering documents, most commonly.  I also counseled investment banks serving as public offering underwriters, placement agents for private securities offerings, and financial advisors in transactions.  Even in those days, I was a bit of a rule-head (self-labeled)--a technically engaged legal advisor who tried to stick to the law and regulations, determine their meaning, and implement them consistent with their meaning in practice.  I drove colleagues to distraction and boredom, on occasion, with my explanations of the appropriate interpretation of various rules, including specifically mandatory disclosure rules.  (This may be why I love the work of the Sustainability Accounting Standards Board, which is looking at mandatory disclosure rules in context.)  I teach my students from that same nerdy vantage point.

In advising issuers and others on mandatory disclosure (and in training junior lawyers in the firm), I always noted that facial compliance with the specific line-item disclosure requirements for a Securities and Exchange Commission ("SEC") form is not enough.  I advised that two additional legal constraints also govern the appropriate content of the public disclosures required to be made in those forms--constraints that required them to inquire about (among other things) missing information.  

  • First, I noted the existence of the general misstatements and omissions disclosure (gap-filler) rules under the Securities Act of 1933 or the Securities Exchange Act of 1934, as amended (as applicable in the circumstances)--Rule 408 under the 1933 Act and Rule 12b-20 under the 1934 Act.  Each of these rules provides for the disclosure of "such further material information, if any, as may be necessary to make the required statements, in the light of the circumstances under which they are made not misleading" in addition to the information expressly required to be included in the relevant disclosure document under applicable line-item disclosure rules.  
  • Second, I noted that anti-fraud law--and, in particular, Section 10(b) of, and Rule 10b-5 under, the 1934 Act--provides an even more comprehensive basis for interrogating the contents of disclosure that facially complies with line-item mandatory disclosure rules.  The overall message?  No one wants a fraud suit, and if they get one, they should be able to get out of it fast!  If a business and its principals were to be sued under Section 10(b) and Rule 10b-5, I wanted to ensure that the relevant disclosures were accurate and complete in all material respects.

Thus, the existence of the line-item and gap-filling disclosure rules--and the potential for fraud liability based on failed compliance with them--are, taken together, important motivators to the best possible disclosure.  In my business lawyering, I believe I used these regulatory principles to my clients' advantage.  I would hate to see lawyers lose the important leverage that potential fraud liability gives them in fostering accurate and complete disclosures, fully compliant with law.  Hence, my position on the Leidos litigation--that mandatory disclosure rules do give rise to a duty to disclose that may form the basis for a securities fraud claim under Section 10(b) and Rule 10b-5.  (The ultimate success of any such claim would be, of course, based on the satisfaction of the other elements of a Section 10(b)/Rule 10b-5 claim.)

So, no treat for me--at least not just yet.  But perhaps this post will forestall any real trickery--the trickery involved with avoiding securities fraud liability for misleading omissions to state material information expressly required to be stated under line-item mandatory disclosure rules.  For me, that is what is at stake in Leidos and in disclosure lawyering generally.  Let's see what transpires from here.

October 30, 2017 in Ann Lipton, Joan Heminway, Lawyering, Securities Regulation | Permalink | Comments (0)

Monday, October 16, 2017

Blockchain-Based Token Sales, Initial Coin Offerings, and the Democratization of Public Capital Markets. Oh, My!

My UT Law colleague Jonathan Rohr has coauthored (with Aaron Wright) an important piece of scholarship on an of-the-moment topic--financial instrument offerings using distributed ledger technology.  Even more fun?  He and his co-author are interested in aspects of this topic at its intersection with the regulation of securities offerings.  Totally cool.

Here is the extended abstract.  I cannot wait to dig into this one.  Can you?  As of the time I authored this post, the article already had almost 700 downloads . . . .  Join the crowd!

+++++

Blockchain-Based Token Sales, Initial Coin Offerings, and the Democratization of Public Capital Markets

Jonathan Rohr & Aaron Wright

Best known for their role in the creation of cryptocurrencies like bitcoin, blockchains are revolutionizing the way tech entrepreneurs are financing their business enterprises. In 2017 alone, over $2.2 billion has been raised through the sale of blockchain-based digital tokens in what some are calling initial coin offerings or “ICOs,” with some sales lasting mere seconds. In a token sale, organizers of a project sell digital tokens to members of the public to finance the development of future technology. An active secondary market for tokens has emerged, with tokens being bought and sold on cryptocurrency exchanges scattered across the globe, with often wild price fluctuations.

The recent explosion of token sales could mark the beginning of a broader shift in public capital markets—one similar to the shift in media distribution that started several decades ago. Blockchains drastically reduce the cost of exchanging value and enable anyone to transmit digitized assets around the globe in a highly trusted manner, stoking dreams of truly global capital markets that leverage the power of a blockchain and the Internet to facilitate capital formation.

The spectacular growth of tokens sales has caused some to argue that these sales simply serve as new tools for hucksters and unscrupulous charlatans to fleece consumers, raising the attention of regulators across the globe. A more careful analysis, however, reveals that blockchain-based tokens represent a wide variety of assets that take a variety of forms. Some are obvious investment vehicles and entitle their holders to economic rights like a share of any profits generated by the project. Others carry with them the right to use and govern the technology that is being developed with funds generated by the token sale and may represent the beginning of a new way to build and fund powerful technological platforms.

Lacking homogeneity, the status of tokens under U.S. securities laws is anything but clear. The test under which security status is assessed—the Howey test—has uncertain application to blockchain-based tokens, particularly those that entitle the holder to use a particular technological service, because they also present the possibility of making a profit by selling the token on a secondary market. Although the SEC recently issued a Report of Investigation in which it found that one type of token qualified as a security, confusion surrounds the boundaries between the types of tokens that will be deemed securities and those that will not.

Blockchain-based tokens exhibit disparate features and have characteristics that make current registration exemptions a poor fit for token sales. In addition to including requirements that do not fit squarely with blockchain-based systems, the transfer restrictions that apply to the most popular exemptions would have the perverse effect of restricting the ability of U.S. consumers to access a new generation of digital technology. The result is an uncertain regulatory environment in which token sellers do not have a sensible path to compliance.

In this Article, we argue that the SEC and Congress should provide token sellers and the exchanges that facilitate token sales with additional certainty. Specifically, we propose that the SEC provide guidance on how it will apply the Howey test to digital tokens, particularly those that mix aspects of consumption and use with the potential for a profit. We also propose that lawmakers adopt both a compliance-driven safe harbor for online exchanges that list tokens with a reasonable belief that the public sale of such tokens is not a violation of Section 5 as well as an exemption to the Section 5 registration requirement that has been tailored to digital tokens.

October 16, 2017 in Corporate Finance, Current Affairs, Entrepreneurship, Joan Heminway, Research/Scholarhip, Securities Regulation, Web/Tech | Permalink | Comments (0)

Wednesday, October 11, 2017

Call for Proposals: Organizing, Deploying & Regulating Capital in the U.S.

From our friend and BLPB colleague, Anne Tucker, following is nice workshop opportunity for your consideration: 

Dear Colleagues,

We (Rob Weber & Anne Tucker) are submitting a funding proposal to host a works-in-progress workshop for 4-8 scholars at Georgia State University College of Law, in Atlanta, Georgia in spring 2018 [between April 16th and May 8th].  Workshop participants will submit a 10-15 page treatment and read all participant papers prior to attending the workshop.  If our proposal is accepted, we will have funding to sponsor travel and provide meals for participants. Interested parties should email amtucker@gsu.edu on or before November 15th with a short abstract (no more than 500 words) of your proposed contribution that is responsive to the description below. Please include your name, school, and whether you will require airfare, miles reimbursement and/or hotel. We will notify interested parties in late December regarding the funding of the workshop and acceptance of proposals.  Please direct all inquiries to Rob Weber (mailto:rweber@gsu.edu) or Anne Tucker (amtucker@gsu.edu).

Call for Proposals: Organizing, Deploying & Regulating Capital in the U.S.

Our topic description is intentionally broad reflecting our different areas of focus, and hoping to draw a diverse group of participants.  Possible topics include, but are not limited to:

  • The idea of financial intermediation: regulation of market failures, the continued relevance of the idea of financial intermediation as a framework for thinking about the financial system, and the legitimating role that the intermediation theme-frame plays in the political economy of financial regulation.
  • Examining institutional investors as a vehicle for individual investments, block shareholders in the economy, a source of efficiency or inefficiency, an evolving industry with the rise of index funds and ETFs, and targets of SEC liquidity regulations.
  • The role and regulation of private equity and hedge funds in U.S. capital markets looking at regulatory efforts, shadow banking concerns, influences in M&A trends, and other sector trends.

This workshop targets works-in-progress and is intended to jump-start your thinking and writing for the 2018 summer.  Our goal is to provide comments, direction, and connections early in the writing and research phase rather than polishing completed or nearly completed pieces.  Bring your early ideas and your next phase projects.  We ask for a 10-15 page treatment of your thesis (three weeks before the workshop) and initial ideas to facilitate feedback, collaboration, and direction from participating in the workshop. Interested parties should email amtucker@gsu.edu on or before November 15th with a short abstract (no more than 500 words) of your proposed contribution that is responsive to the description below. Please include your name, school, and whether you will require airfare, miles reimbursement and/or hotel. We will notify interested parties in late December regarding the funding of the workshop and acceptance of proposals.  Please direct all inquiries to Rob Weber (rweber@gsu.edu) or Anne Tucker (amtucker@gsu.edu).

Thank you!

Anne & Rob

October 11, 2017 in Anne Tucker, Call for Papers, Corporate Finance, Financial Markets, Joshua P. Fershee, Law School, M&A, Research/Scholarhip, Securities Regulation, Writing | Permalink | Comments (0)

Do We Need Universal Proxies?

Earlier this week, I had the pleasure of hearing a talk about universal proxies from Scott Hirst, Research Director of Harvard’s Program on Institutional Investors.

By way of background, last Fall under the Obama Administration, the SEC proposed a requirement for universal proxies noting:

Today’s proposal recognizes that few shareholders can dedicate the time and resources necessary to attend a company’s meeting in person and that, in the modern marketplace, most voting is done by proxy.  This proposal requires a modest change to address this reality.  As proposed, each party in a contest still would bear the costs associated with filing its own proxy statement, and with conducting its own independent solicitation.  The main difference would be in the form of the proxy card attached to the proxy statement.  Subject to certain notice, filing, form, and content requirements, today’s proposal would require each side in a contest for the first time to provide a universal proxy card listing all the candidates up for election.

The Council of Institutional Investors favors their use explaining, “"Universal" proxy cards would let shareowners vote for the nominees they wish to represent them on corporate boards. This is vitally important in proxy contests, when board seats (and in some cases, board control) are at stake. Universal proxy cards would make for a fairer, less cumbersome voting process.” 

The U.S. Chamber of Commerce has historically spoken out against them, arguing:

Mandating a universal ballot, also known as a universal proxy card, at all public companies would inevitably increase the frequency and ease of proxy fights. Such a development has no clear benefit to public companies, their shareholders, or other stakeholders. The SEC has historically sought to remain neutral with respect to interactions between public companies and their investors, and has always taken great care not to implement any rule that would favor one side over the other. We do not understand why the SEC would now pursue a policy that would increase the regularity of contested elections or cause greater turnover in the boardroom.

I can't speak for the Chamber, but I imagine one big concern would be whether universal proxies would provide proxy advisors such as ISS and Glass Lewis even more power than they already have with institutional investors. When I asked Hirst about this, he did not believe that the level of influence would rise significantly.

Hirst’s paper provides an empirical study that supports his contention that reform would help mitigate some of the distortions from the current system. It’s worth a read, although he acknowledges that in the current political climate, his proposal will not likely gain much traction. The abstract is below:

Contested director elections are a central feature of the corporate landscape, and underlie shareholder activism. Shareholders vote by unilateral proxies, which prevent them from “mixing and matching” among nominees from either side. The solution is universal proxies. The Securities and Exchange Commission has proposed a universal proxy rule, which has been the subject of heated debate and conflicting claims. This paper provides the first empirical analysis of universal proxies, allowing evaluation of these claims.

The paper’s analysis shows that unilateral proxies can lead to distorted proxy contest outcomes, which disenfranchise shareholders. By removing these distortions, universal proxies would improve corporate suffrage. Empirical analysis shows that distorted proxy contests are a significant problem: 11% of proxy contests at large U.S. corporations between 2001 and 2016 can be expected to have had distorted outcomes. Contrary to the claims of most commentators, removing distortions can most often be expected to favor management nominees, by a significant margin (two-thirds of distorted contests, versus one-third for dissident nominees). A universal proxy rule is therefore unlikely to lead to more proxy contests, or to greater success by special interest groups.

Given that the arguments made against a universal proxy rule are not valid, the SEC should implement proxy regulation. A rule permitting corporations to opt-out of universal proxies would be superior to the SEC’s proposed mandatory rule. If the SEC chooses not to implement a universal proxy regulation, investors could implement universal proxies through private ordering to adopt “nominee consent policies.

October 11, 2017 in Corporate Governance, Corporate Personality, Corporations, Financial Markets, Marcia Narine Weldon, Securities Regulation, Shareholders | Permalink | Comments (0)

Wednesday, October 4, 2017

Revising How to Handle Derivative Claims (or Not)

Yesterday, Professor Bainbridge posted "Is there a case for abolishing derivative litigation? He makes the case as follows: 

A radical solution would be elimination of derivative litigation. For lawyers, the idea of a wrong without a legal remedy is so counter-intuitive that it scarcely can be contemplated. Yet, derivative litigation appears to have little if any beneficial accountability effects. On the other side of the equation, derivative litigation is a high cost constraint and infringement upon the board’s authority. If making corporate law consists mainly of balancing the competing claims of accountability and authority, the balance arguably tips against derivative litigation. Note, moreover, that eliminating derivative litigation does not eliminate director accountability. Directors would remain subject to various forms of market discipline, including the important markets for corporate control and employment, proxy contests, and shareholder litigation where the challenged misconduct gives rise to a direct cause of action.

If eliminating derivative litigation seems too extreme, why not allow firms to opt out of the derivative suit process by charter amendment? Virtually all states now allow corporations to adopt charter provisions limiting director and officer liability. If corporate law consists of a set of default rules the parties generally should be free to amend, as we claim, there seems little reason not to expand the liability limitation statutes to allow corporations to opt out of derivative litigation.

I think he makes a good point.  And included in the market discipline and other measures that Bainbridge notes would remain in place to maintain director accountability, there would be the shareholder response to the market.  That is, if shareholders value derivative litigation as an option ex ante, the entity can choose to include derivative litigation at the outset or to add it later if the directors determine the lack of a derivative suit option is impacting the entity's value.  

Professor Bainbridge's post also reminded me of another option: arbitrating derivative suits.  A friend of mine made just such a proposal several years ago while we were in law school: 

There are a number of factors that make the arbitration of derivative suits desirable. First, the costs of an arbitration proceeding are usually lower than that of a judicial proceeding, due to the reduced discovery costs. By alleviating some of the concern that any D & O insurance coverage will be eaten-up by litigation costs, a corporation should have incentive to defend “frivolous” or “marginal” derivative claims more aggressively. Second, and directly related to litigation costs, attorneys' fees should be cut significantly via the use of arbitration, thus preserving a larger part of any pecuniary award that the corporation is awarded. Third, the reduced incentive of corporations to settle should discourage the initiation of “frivolous” or “marginal” derivative suits.

Andrew J. Sockol, A Natural Evolution: Compulsory Arbitration of Shareholder Derivative Suits in Publicly Traded Corporations, 77 Tul. L. Rev. 1095, 1114 (2003) (footnote omitted). 

Given the usually modest benefit of derivative suits, early settlement of meritorious suits, and the ever-present risk of strike suits, these alternatives are well worth considering.  

October 4, 2017 in ADR, Corporate Finance, Corporate Governance, Corporations, Delaware, Financial Markets, Joshua P. Fershee, Litigation, Securities Regulation | Permalink | Comments (3)

Monday, September 11, 2017

A Public Company With Mandatory Disclosure Obligations Has A Duty To Disclose

Last Thursday, Jay Brown filed an amicus brief with the U.S. Supreme Court coauthored by him, me, Jim Cox, and Lyman Johnson.  The brief was filed in Leidos, Inc., fka SAIC, Inc., Petitioners, v. Indiana Public Retirement System, Indiana State Teachers’ Retirement Fund, and Indiana Public Employees’ Retirement Fund, an omission case brought under Section 10(b) of and Rule 10b-5 under the Securities Exchange Act of 1934, as amended.   An abstract of the brief follows.

This Amicus Brief was filed with the U.S. Supreme Court on behalf of nearly 50 law and business faculty in the United States and Canada who have a common interest in ensuring a proper interpretation of the statutory securities regulation framework put in place by the U.S. Congress. Specifically, all amici agree that Item 303 of the Securities and Exchange Commission's Regulation S-K creates a duty to disclose for purposes of Rule 10b-5(b) under the Securities Exchange Act of 1934.

The Court’s affirmation of a duty to disclose would have little effect on existing practice. Under the current state of the law, investors can and do bring fraud claims for nondisclosure of required information by public companies. Thus, affirming the existence of a duty to disclose will not significantly alter existing practices or create a new avenue for litigants that will lead to “massive liability” or widespread enforcement of “technical reporting violations.”

At the same time, the failure to find a duty to disclose in these circumstances will hinder enforcement of the system of mandatory reporting applicable to public companies and weaken compliance. Reversal of the lower court would reduce incentives to comply with the requirements mandated by the system of periodic reporting. Enforcement under Section 10(b) of and Rule 10b-5(b) under the Securities Exchange Act of 1934 by investors in the case of nondisclosure will effectively be eliminated. Reversal would likewise reduce the tools available to the Securities and Exchange Commission to ensure compliance with the system of periodic reporting. In an environment of diminished enforcement, reporting companies could perceive their disclosure obligations less as a mandate than as a series of options. Required disclosure would more often become a matter of strategy, with issuers weighing the obligation to disclose against the likelihood of detection and the reduced risk of enforcement.

Under this approach, investors would not make investment decisions on the basis of “true and accurate corporate reporting. . . .” They would operate under the “predictable inference” that reports included the disclosure mandated by the rules and regulations of the Securities and Exchange Commission. Particularly where officers certified the accuracy and completeness of the information provided in the reports, investors would have an explicit basis for the assumption. They would therefore believe that omitted transactions, uncertainties, and trends otherwise required to be disclosed had not occurred or did not exist. Trust in the integrity of the public disclosure system would decline.

The lower court correctly recognized that the mandatory disclosure requirements contained in Item 303 gave rise to a duty to disclose and that the omission of material trends and uncertainties could mislead investors. The decision below should be affirmed.

More information about the case (including the parties' briefs and all of the amicus briefs) can be found here.  The link to our brief is not yet posted there but likely will be available in the next few days.  Also, I commend to you Ann Lipton's earlier post here about the circuit split on the duty to disclose issue up for review in Leidos.  

Imv, this is a great case for discussion in a Securities Regulation course.  It involves mandatory disclosure rules, fraud liability, and class action gatekeeping.  As such, it allows for an exploration of core regulatory and enforcement tools of federal securities regulation.

September 11, 2017 in Ann Lipton, Joan Heminway, Litigation, Securities Regulation | Permalink | Comments (1)

Sunday, August 6, 2017

The Inclusive Capitalism Shareholder Proposal

My latest paper, The Inclusive Capitalism Shareholder Proposal, 17 U.C. Davis Bus. L.J. 147 (2017), is now available on Westlaw. Here is the abstract:

When it comes to the long-term well being of our society, it is difficult to overstate the importance of addressing poverty and economic inequality. In Capital in the Twenty-First Century, Thomas Piketty famously argued that growing economic inequality is inherent in capitalist systems because the return to capital inevitably exceeds the national growth rate. Proponents of “Inclusive Capitalism” can be understood to respond to this issue by advocating for broadening the distribution of the acquisition of capital with the earnings of capital. This paper advances the relevant discussion by explaining how shareholder proposals may be used to increase understanding of Inclusive Capitalism, and thereby further the likelihood that Inclusive Capitalism will be implemented. In addition, even if the suggested proposals are rejected, the shareholder proposal process can be expected to facilitate a better understanding of the strengths and weaknesses of Inclusive Capitalism, as well as foster useful new lines of communication for addressing both poverty and economic inequality.

August 6, 2017 in Corporate Finance, Corporate Governance, CSR, Financial Markets, Research/Scholarhip, Securities Regulation, Shareholders, Social Enterprise, Stefan J. Padfield | Permalink | Comments (0)

Saturday, August 5, 2017

SEALS 2017 - White Collar Crime Discussion Group

I have been at the Southeastern Association of Law Schools (SEALS) conference all week.  As usual, there have been too many program offerings important to my scholarship and teaching.  I have participated in and attended so many things.  I am exhausted.

But I know that all of this activity also energizes me.  Once I am back at home tomorrow night and get a good night's sleep, I will be ready to rock and roll into the new academic year (which starts for us at UT Law in a few weeks).  I use the SEALS conference as this bridge to the new year every summer.

One of my favorite discussion groups at the conference was the White Collar Crime discussion group that John Anderson and I organized.  A number of us focused on insider trading law this year.  John, for example, shared his preliminary draft of an insider trading statute.  I asked folks to ponder the result under U.S. insider trading law of a tipping case with the following general facts:

  • A person with a fiduciary duty of trust and confidence to a principal conveys material nonpublic information obtained through the fiduciary relationship to a third person;
  • The recipient of the information is someone with whom the fiduciary has no prior familial or friendship relationship;
  • The conveyance is made to the recipient by the fiduciary without the consent of the principal;
  • The conveyance is made to the recipient gratuitously;
  • The fiduciary’s purpose in conveying the information is to benefit the recipient;
  • Specifically, the fiduciary knows that the recipient has the ability and incentive to trade on the information or convey it to others who have the ability and incentive to trade; and
  • The fiduciary has clear knowledge and understanding of resulting detriment to the principal.

The question, of course, is whether the fiduciary has engaged in deception that constitutes a willful violation of insider trading proscriptions under Section 10(b) and Rule 10b-5.  The answer, based on what we now know under U.S. insider trading law, depends on whether the fiduciary's sharing of information is improper.  What do you think?  I shared my views and others in the group shared theirs.  I may have more to say on this problem and my related work in a later post.

August 5, 2017 in Joan Heminway, Securities Regulation, White Collar Crime | Permalink | Comments (0)

Wednesday, July 19, 2017

Making Friends with Entrepreneurs

Last year, I was asked to contribute to a symposium on law and entrepreneurship hosted at the University of North Carolina.  Although I had to Skype in for my presentation from Little Rock, Arkansas (where I had just given a separate, unrelated CLE presentation), the panel to which I was assigned was fabulous.  Great scholars, with great ideas.

For my contribution to the symposium, I chose to reflect on the unfulfilled promise of the potentially mutually beneficial relationship between an entrepreneur and a business finance lawyer.  I recently posted the published work memorializing my thoughts on the topic, featured this spring with several other articles from the symposium in a dedicated edition of the North Carolina Law Review.  The brief abstract for my article follows:

Entrepreneurs have the capacity to add value to the economy and the community. Business lawyers—including business finance lawyers—want to help entrepreneurs achieve their objectives. Despite incentives to a symbiotic relationship, however, entrepreneurs and business finance lawyers are not always the best of friends. This Article offers several approaches to bridging this gap between entrepreneurs and business finance lawyers.

My hope in writing this article was to infuse some energy into conversations about the role of business finance and business finance lawyers in the start-up and small business environment.  Too many principals of emergent businesses with whom I interact think that business entity choice and formation are divorced--wholly or in major part--from finance.  Of course, governance and tax matters (as well as, e.g., intellectual property and employment law concerns) are key.  But my personal view is that entrepreneurs and promoters of new businesses should map out their plan for financing firms from the start and take that plan into account in choosing the form of legal entity for those businesses.  I may be fighting an uphill battle on this (for a variety of reasons, mostly relating to the limited resource environment in which start-ups and small businesses exist), but I hope the article gives both clients and lawyers in this space something to consider, at the very least.

July 19, 2017 in Corporate Finance, Entrepreneurship, Joan Heminway, Lawyering, Securities Regulation | Permalink | Comments (2)

Friday, July 7, 2017

New Article by Bernard Sharfman on Dual Class Shares and IPOs

Bernard Sharfman has written another interesting article on shareholder empowerment. I wish I had read A Private Ordering Defense of a Company's Right to Use Dual Class Share Structures in IPOs before I discussed the Snap IPO last semester in business associations.

The abstract is below:

The shareholder empowerment movement (movement) has renewed its effort to eliminate, restrict or at the very least discourage the use of dual class share structures in initial public offerings (IPOs). This renewed effort was triggered by the recent Snap Inc. IPO that utilized non-voting stock. Such advocacy, if successful, would not be trivial, as many of our most valuable and dynamic companies, including Alphabet (Google) and Facebook, have gone public by offering shares with unequal voting rights.

This Article utilizes Zohar Goshen and Richard Squire’s “principal-cost theory” to argue that the use of the dual class share structure in IPOs is a value enhancing result of the bargaining that takes place in the private ordering of corporate governance arrangements, making the movement’s renewed advocacy unwarranted.

As he has concluded:

It is important to understand that while excellent arguments can be made that the private ordering of dual class share structures must incorporate certain provisions, such as sunset provisions, it is an overreach for academics and shareholder activists to dictate to sophisticated capital market participants, the ones who actually take the financial risk of investing in IPOs, including those with dual class share structures, how to structure corporate governance arrangements. Obviously, all the sophisticated players in the capital markets who participate in an IPO with dual class shares can read the latest academic articles on dual class share structures, including the excellent new article by Lucian Bebchuk and Kobi Kastiel, and incorporate that information in the bargaining process without being dictated to by parties who are not involved in the process. If, as a result of this bargaining, the dual class share structure has no sunset provision and perhaps even no voting rights in the shares offered, then we must conclude that these terms were what the parties required in order to get the deal done, with the risks of the structure being well understood.… capital markets paternalism is not required when it comes to IPOs with dual class share structures.

Please be sure to share your comments with Bernard below.

July 7, 2017 in Corporate Finance, Corporate Governance, Corporate Personality, Corporations, Marcia Narine Weldon, Securities Regulation, Shareholders | Permalink | Comments (0)

Tuesday, June 6, 2017

GM Votes Show Value of Shareholder Proposals as a Process for Accountability

More than two years ago, I posted Shareholder Activists Can Add Value and Still Be Wrongwhere I explained my view on shareholder proposals: 

I have no problem with shareholders seeking to impose their will on the board of the companies in which they hold stock.  I don't see activist shareholder as an inherently bad thing.  I do, however, think  it's bad when boards succumb to the whims of activist shareholders just to make the problem go away.  Boards are well served to review serious requests of all shareholders, but the board should be deciding how best to direct the company. It's why we call them directors.    

Today, the Detroit Free Press reported that shareholders of automaker GM soundly defeated a proposal from billionaire investor David Einhorn that would have installed an alternate slate of board nominees and created two classes of stock.  (All the proposals are available here.) Shareholders who voted were against the proposals by more than 91%.  GM's board, in materials signed by Mary Barra, Chairman & Chief Executive Officer and Theodore Solso, Independent Lead Director, launched an aggressive campaign to maintain the existing board (PDF here) and the split shares proposal (PDF here).  GM argued in the board maintenance piece: 

Greenlight’s Dividend Shares proposal has the potential to disrupt our progress and undermine our performance. In our view, a vote for any of the Greenlight candidates would represent an endorsement of that high-risk proposal to the detriment of your GM investment.

Another shareholder proposal asking the board to separate the board chair and CEO positions was reported by the newspaper as follows: "A separate shareholder proposal that would have forced GM to separate the role of independent board chairman and CEO was defeated by shareholders." Not sure. Though the proposal was defeated, it's worth noting that the proposal would not have "forced" anything.  The proposal was an "advisory shareholder proposal" requesting the separation of the functions.  No mandate here, because such decisions must be made by the board, not the shareholders.  The proposal stated: 

Shareholders request our Board of Directors to adopt as policy, and amend our governing documents as necessary, to require the Chair of the Board of Directors, whenever possible, to be an independent member of the Board. The Board would have the discretion to phase in this policy for the next CEO transition, implemented so it did not violate any existing agreement. If the Board determines that a Chair who was independent when selected is no longer independent, the Board shall select a new Chair who satisfies the requirements of the policy within a reasonable amount of time. Compliance with this policy is waived if no independent director is available and willing to serve as Chair. This proposal requests that all the necessary steps be taken to accomplish the above.

GM argued against this proposal because the "policy advocated by this proposal would take away the Board’s discretion to evaluate and change its leadership structure." Also not true.  It the proposal were mandatory, then this would be true, but as a request, it cannot and could not take away anything.  If the shareholders made such a request and the board declined to follow that request, there might be repercussions for doing so,  but the proposal would have kept in place the "Board’s discretion to evaluate and change its leadership structure."  

These proposals appear to have been properly brought, properly considered, and properly rejected.  As I suggested in 2015, shareholder activists can help improve long-term value, even when following the activists' proposals would not.  That is just as true today and these proposals may well prime the pumpTM for future board or shareholder actions.  That is, GM has conceded that its stock is undervalued and that change is needed.  GM argues those changes are underway, and for now, most voting shareholder agree.  But we'll see how this looks if the stock price has not noticeably improved next year.  An alternative path forward on some key issues has been shared, and that puts pressure on this board to deliver.  They can do it their own way, but they are on notice that there are alternatives.  An shareholders now know that, too.

This knowledge underscores the value of shareholder proposals as a process.  They can and should create accountability, and that is a good thing. I agree with GM that the board should keep control of how it structures the GM leadership team.  But I agree with the shareholders that if this board doesn't perform, it may well be time for a change.  

June 6, 2017 in Corporate Finance, Corporate Governance, Corporations, Current Affairs, Financial Markets, Joshua P. Fershee, Management, Securities Regulation, Shareholders | Permalink | Comments (0)

Saturday, May 20, 2017

Loyalty to Whom (or What)?

Loyalty has been in the news lately.  The POTUS, according to some reports, asked former Federal Bureau of Investigation ("FBI") Director James Comey to pledge his loyalty.  Assuming the basic veracity of those reports, was the POTUS referring to loyalty to the country or to him personally?  Perhaps both and perhaps, as Peter Beinart avers in The Atlantic, the POTUS and others fail to recognize a distinction between the two.  Yet, identifying the object of a duty can be important.

I have observed that the duty of government officials is not well understood in the public realm. Donna Nagy's fine work on this issue in connection with the proposal of the Stop Trading on Congressional Knowledge ("STOCK") Act, later adopted by Congress, outlines a number of ways in which Congressmen and Senators, among others, may owe fiduciary duties to others.  If you have not yet been introduced to this scholarship, I highly recommend it.  If we believe that government officials are entrusted with information, among other things, in their capacity as public servants, they owe duties to the government and its citizens to use that information in authorized ways for the benefit of that government and those citizens.  In fact, Professor Nagy's congressional testimony as part of the hearings on the STOCK Act includes the following in this regard:

Given the Constitution's repeated reference to public offices being “of trust,” and Members’ oath of office to “faithfully discharge” their duties, I would predict that a court would be highly likely to find that Representatives and Senators owe fiduciary-like duties of trust and confidence to a host of parties who may be regarded as the source of material nonpublic congressional knowledge. Such duties of trust and confidence may be owed to, among others:

  • the citizen-investors they serve;
  • the United States;
  • the general public;
  • Congress, as well as the Senate or the House;
  • other Members of Congress; and
  • federal officials outside of Congress who rely on a Member’s loyalty and integrity.

There is precious little in federal statutes, regulations, and case law on the nature--no less the object--of any fiduciary the Director of the FBI may have.  The authorizing statute and regulations provide little illumination.  Federal court opinions give us little more.  See, e.g., Banks v. Francis, No. 2:15-CV-1400, 2015 WL 9694627, at *3 (W.D. Pa. Dec. 18, 2015), report and recommendation adopted, No. CV 15-1400, 2016 WL 110020 (W.D. Pa. Jan. 11, 2016) ("Plaintiff does not identify any specific, mandatory duty that the federal officials — Defendants Hornak, Brennan, and the FBI Director— violated; he merely refers to an overly broad duty to uphold the U.S. Constitution and to see justice done.").  Accordingly, any applicable fiduciary duty likely would arise out of agency or other common law.  Section 8.01 of the Restatement (Third) of Agency provides "An agent has a fiduciary duty to act loyally for the principal's benefit in all matters connect with the agency relationship."  

But who is the principal in any divined agency relationship involving the FBI Director?  

Continue reading

May 20, 2017 in Agency, Business Associations, Corporate Governance, Corporations, Current Affairs, Joan Heminway, Securities Regulation | Permalink | Comments (4)

Monday, May 1, 2017

The Criminalization of Insider Trading: Has It Gone Too Far?

A bit more than a year ago, I had the opportunity to participate in a conference on corporate criminal liability at the Stetson University College of Law.  The short papers from the conference were published in a subsequent issue of the Stetson Law Review.  This was the second time that Ellen Podgor, a friend and white collar crime scholar on the Stetson Law faculty, invited me to produce a short work on corporate criminal liability for publication in a dedicated edition of the Stetson Law Review.  (The first piece I published in the Stetson Law Review reflected on corporate personhood in the wake of the U.S. Supreme Court's Citizen's United opinion.  It has been downloaded and cited a surprising number of times.  So, I welcomed the opportunity to publish with the law review a second time.)

For the 2016 conference, I chose to focus on the reckless conduct of employees and its capacity to generate corporate criminal insider trading liability for the employer.  The abstract for the resulting paper, (Not) Holding Firms Criminally Responsible for the Reckless Insider Trading of their Employees (recently posted to SSRN), is as follows:

Criminal enforcement of the insider trading prohibitions under Section 10(b) and Rule 10b–5 is the root of corporate criminal liability for insider trading in the United States. In the wake of assertions that S.A.C. Capital Advisors, L.P. actively encouraged the unlawful use of material nonpublic information in the conduct of its business, the line between employer and employee criminal liability for insider trading becomes both tenuous and salient. An essential question emerges: when do we criminally prosecute the firm for the unlawful conduct of its employees?

The possibility that reckless employee conduct may result in the employer's willful violation of Section 10(b) and Rule 10b–5 (and, therefore, criminal liability for that employer firm) motivates this article. The article first reviews the basis for criminal enforcement of the insider trading prohibitions established in Section 10(b) and Rule 10b–5 and describes the basis and rationale for corporate criminal liability (a liability that derives from the activities of agents undertaken in the course of the firm’s business). Then, it reflects on that basis and rationale by identifying the potential for corporate criminal liability for the reckless insider trading violations of employees under Section 10(b) and Rule 10b–5, arguing against that liability, and suggesting ways to eliminate it.

I was not the only conference participant concerned about the criminal liability of an employer for the insider trading conduct of an employee.  John Anderson, who co-led an insider trading discussion group with me at the 2017 Association of American Law Schools annual meeting back in January and also enjoys exploring criminal insider trading issues, contributed his research on the overcriminalization of insider trading at the conference.  His paper, When Does Corporate Criminal Liability for Insider Trading Make Sense?, identifies the same overall problem as my article does (employer criminal liability for insider trading based on employee conduct).  However, he views both the problem and the potential solutions more broadly.  

Continue reading

May 1, 2017 in Conferences, Corporate Governance, Joan Heminway, Securities Regulation, White Collar Crime | Permalink | Comments (2)

Wednesday, April 26, 2017

What's next for conflict minerals legislation? My views and the GAO report

Last week, a reporter interviewed me regarding conflict minerals.The reporter specifically asked whether I believed there would be more litigation on conflict minerals and whether the SEC's lack of enforcement would cause companies to stop doing due diligence. I am not sure which, if any, of my remarks will appear in print so I am posting some of my comments below:

I expect that if conflict minerals legislation survives, it will take a different form. The SEC asked for comments at the end of January, and I've read most of the comment letters. Many, including Trillium Asset Management, focus on the need to stay the course with the Rule, citing some success in making many mines conflict free. Others oppose the rule because of the expense. However, it appears that the costs haven't been as high as most people expected, and indeed many of the tech companies such as Apple and Intel have voiced support for the rule. It's likely that they have already operationalized the due diligence. The SEC has limits on what it can do, so I expect Congress to take action, unless there is an executive order from President Trump, which people have been expecting since February. 
 
The Senate Foreign Relations subcommittee on Africa held a hearing on conflict minerals on April 5, and some of the witnesses and Senators talked about what hasn't worked with the rule. Although the situation has improved, the violence continues, most notably with the murder of a member of the UN Group of Experts just last week. Rick Goss from the Information Technology Council testified the while the Rule has had some benefits such as increased transparency and raising global awareness, there are also things that don't work. He discussed fact that the illicit trade in gold continues and criminal elements are still exploiting other resources. A number of his and other witness' proposed solutions were more holistic and geopolitical and went beyond the SEC's purview, and I think that's where the government should look when trying to address these issues. You may see a push toward a safe harbor, which came up in some of the comment letters, and which was a point of discussion during the Senate testimony. With a safe harbor, the issuer could rely on supplier certifications.
 
Lack of enforcement or less enforcement could cause more issuers to continue to do business or start doing business there because it will be less onerous. On the other hand, with with the EU's conflict mineral rules, which will come into play in 2021 and which covers the same minerals (but is not limited in geography) you may find that the big issuers decide to stay the course with due diligence.
 
I have been focusing my research on the consumer aspect of these name and shame laws. While there have been conflict-free campuses and conflict-free cities (and some of them sent letters to the SEC), I haven't seen solid evidence that shows that consumers are boycotting the companies that aren't doing the full due diligence that 1502 requires or rewarding those that do. Apple is a stand-out in conflict minerals compliance but they also happen to sell something that people really want.
 
Although firms like Trillium state that investors like the transparency, they are likely benefitting from an improved supply chain in general because companies that attempted to follow 1502 by necessity had to upgrade systems and supplier protocols.
 
So in sum, I think that the firms that are already doing what they are supposed to may continue to do so (or scale back just a little) and may tout these voluntary efforts in their CSR reports. Those who have been unable to determine the origin of their minerals won't likely do any more than they have to or may just source their minerals elsewhere.
 
If Congress keeps the rule, I recommend that the SEC:
 
1) limit reporting obligations to those companies that manufacture products;
2) add a de minimis exception to the Conflict Minerals Rule; and
3) include a safe harbor provision to allow issuers to rely upon defined contract provisions and supplier certifications.
 
Ideally, theTrump government should take the onus of the responsibility for solving this human rights crisis off the private sector and instead work with the Congolese government, other governments, and NGOs on holistic solutions, especially as it relates to the members of the armed forces, who are also involved in illegal mineral trade and human rights abuses.
 

Just today, the GAO issued a report on conflict minerals. Dodd-Frank requires an annual report on the effectiveness of the rule "in promoting peace and security in the DRC and adjoining countries." Of note, the report explained that:

After conducting due diligence, an estimated 39 percent of the companies reported in 2016 that they were able to determine that their conflict minerals came from covered countries or from scrap or recycled sources, compared with 23 percent in 2015. Almost all of the companies that reported conducting due diligence in 2016 reported that they could not determine whether the conflict minerals financed or benefited armed groups, as in 2015 and 2014. (emphasis added).

The Trump Administration, some SEC commissioners, and many in Congress have already voiced their concerns about this legislation. I didn't have the benefit of the GAO report during my interview, but it will likely provide another nail in the coffin of the conflict minerals rule. 

 

 

 

April 26, 2017 in Compliance, Corporate Governance, Corporations, CSR, Current Affairs, Human Rights, International Law, Legislation, Marcia Narine Weldon, Securities Regulation | Permalink | Comments (1)

Monday, April 24, 2017

Lawyers and Compliance: Business Entity Clients with Control Persons Who Recklessly Disobey

As a business lawyer in private practice, I found it very frustrating when the principals of business entity clients acted in contravention of my advice.  This didn't happen too often in my 15 years of practice.  But when it did, I always wondered whether I could have stopped the madness by doing something differently in my representation of the client.

Thanks to friend and Wayne State University Law School law professor Peter Henning, who often writes on insider trading and other white collar crime issues for the New York Times DealBook (see, e.g., this recent piece), I had the opportunity to revisit this issue through my research and present that research at a symposium at Wayne Law back in the fall of 2015.  The law review recently published the resulting short article, which I have posted to SSRN.  The abstract is set forth below.

Sometimes, business entity clients and their principals do not seek, accept, or heed the advice of their lawyers. In fact, sometimes, they expressly disregard a lawyer’s instructions on how to proceed. In certain cases, the client expressly rejects the lawyer’s advice. However, some business constituents who take action contrary to the advice of legal counsel may fall out of compliance incrementally over time or signal compliance and yet (paradoxically) act in a noncompliant manner. These seemingly ineffectual varieties of the lawyer/client relationship are frustrating to the lawyer.

This short article aims to explain why representatives of business entities who consider themselves law-abiding and ethical may nevertheless act in contravention of the business’s legal counsel and offers preliminary means of addressing the proffered reasons for these compliance failures. The article does not address willful noncompliance or even willful blindness. Rather, it makes observations about behavior that falls squarely into what the law typically recognizes as recklessness. An apocryphal lawyer-client story relating to insider trading compliance provides foundational context.

The exemplar story derives from things I witnessed in law practice.  Perhaps some of you also have experienced clients or business entity client principals which/who act contrary to your advice in similar ways.  Regardless, you may find this short piece of interest.

April 24, 2017 in Compliance, Conferences, Corporate Governance, Joan Heminway, Lawyering, Securities Regulation | Permalink | Comments (2)