Wednesday, May 16, 2007
A May 4 letter to the SEC by Senators Feingold and Leahy, urging that investors should not be required to arbitrate their disputes with their brokers, has received considerable publicity lately. In addition, Senator Robert Casey expressed similar views in a speech to state regulators. The House Financial Services Committee has scheduled a June 26 hearing and has called the SEC Commissioners to testify about whether the SEC is vigorously protecting investors. See WSJ, Change Is in the Wind On Investor Arbitration.
I find it interesting that the politicians are not focusing on a broader question -- the issue of consent in the context of standard-form arbitration agreements. In addition to brokerage agreements, a wide range of consumer contracts (e.g., credit-card agreements, service contracts for extermination services) and employment contracts contain arbitration clauses, since the Supreme Court, beginning in the 1980s, made arbitration a federal policy. As I have written frequently, I do not believe that securities arbitration is unfair to investors and, indeed, courts would be a far worse option for most investors, given the anti-investor bias of the federal securities laws. Thus, in my view, the SEC should focus its attention on making sure that the securities arbitration process is as fair as possible for investors.
It should be noted too that securities arbitration has not worked out quite as brokerage firms expected, especially since the Supreme Court's 1995 decision that arbitrators could award customers punitive damages. If a brokerage firm thought it could gain a competitive edge by making arbitration voluntary, it might well do so on its own.
Senator Charles Grassley plans to introduce a bill giving the SEC the authority to require hedge fund advisers to register with the agency, saying that the SEC needs more information about funds' activities to protect the markets from trading abuses. The D.C. Circuit invalidated a SEC rule requiring registration last year because it exceeded the agency's authority. See NYTimes, Hedge Fund Proposal.
ThomsonCorp's $17.2 billion acquisition of the Reuters Group would result in a combined company, Thomson-Reuters, owning about 34% of the market for financial data and in a position to compete head-to-head with Bloomberg, which currents owns about one-third of the market. The Thomson family will have majority control of the combined company. The deal is subject to antitrust review both in the U.S. and Europe. See NYTimes, Thomson Adds Reuters in $17 Billion Bid to Be Giant; WSJ, Thomson's $17.2 Billion Pact For Reuters to Face Reviews.
Tyco agreed to settle a class action lawsuit brought by purchasers of Tyco stock for nearly $3 billion, the fourth largest class action settlement ever (and the largest involving one defendant). In addition, plaintiffs will receive one-half of any proceeds the company collects in litigation against Dennis Kozlowski and two other executives. Tyco also assigned its accounting malpractice claim against PriceWaterhouseCoopers to the shareholders. See NYTimes, Tyco to Pay $3 Billion to Settle Investor Lawsuits; WSJ, Tyco Accord May Spell Trouble for Auditor.
Tuesday, May 15, 2007
The North American Securities Administrators Association today released its annual forecast of the Top 10 Traps likely to ensnare investors. In alphabetical order, they are: affinity fraud, foreign exchange trading, internet fraud, investment seminars, oil and gas scams, prime bank schemes, private securities offerings, real estate investment contracts, unlicensed individuals and unregistered products, unsuitable sales.
SIFMA (the Securities Industry and Financial Markets Association) issued a press release announcing it is "outraged" that the SEC is not asking for a rehearing in FPA v. SEC and accuses the agency of leaving investors in the lurch. It also said that the four-month delay that the SEC has requested from the D.C. Court is not sufficient to deal with the transition.
I was very surprised at the SEC’s announcement yesterday that it would not seek rehearing of FPA v. SEC (D.C. Cir. Mar. 30, 2007), in which the court vacated, in its entirety, SEC Rule 202(a)(11)-1. The brokerage industry had been lobbying the SEC hard for a rehearing petition, and indeed, just last week Commissioner Paul Atkins said he thought the SEC should do so. Instead, the SEC is requested a four-month stay of the decision, to allow time for investors and brokers to respond to the decision. Chairman Cox also stated that the SEC was committed to take the opportunity “to improve investors’ ability to make educated decisions about their investment accounts and their financial services providers.”
The controversy over the Rule, and the reason the Financial Planners Association brought the lawsuit, is its exemption of broker-dealers offering fee-based accounts from regulation as investment advisers. The D.C. Circuit (2-1 decision) held that the SEC exceeded its authority in granting this exemption. The court, in a startling example of narrow statutory interpretation, held that since the statute set forth one exemption for broker-dealers, the SEC could not use its statutory authority to promulgate rules exempting “other persons” to create an additional exemption for broker-dealers. (I have previously written that the SEC Rule was bad policy, but I never doubted the SEC's statutory authority to promulgate it.)
Chairman Cox also announced that the SEC was accelerating the timetable of a previously commissioned study by the RAND Corporation on how the different regulatory systems that apply to broker-dealers and investment advisers affect investors, which is expected “to provide an important empirical foundation for considering improvements in regulatory and legislative rules that date back to the 1930s.” This suggests that the SEC has given up on the D.C. Circuit and plans, instead, to propose legislative changes.
Another part of the vacated SEC Rule has received much less attention. It allowed full-service brokerage firms to offer discount, execution-only services without being deemed investor advisers. Under prior SEC interpretations going back to 1978, a two-tier pricing system for commissions (with or without advice) meant that the brokerage firm was receiving “special compensation” for its advice and fell within the definition of “investment adviser.” Because the D.C. Circuit vacated the Rule in its entirety, the earlier interpretation presumably is still in effect. Indeed, the D.C. Circuit made a point of setting forth the prior interpretation in a footnote and approvingly noted that it was based on the SEC’s “contemporaneous” (i.e., 1940) views of the statute.
The exemption allowing two-tier pricing programs was not an issue in the FPA litigation, and, so far as I know, no one considered this aspect of the Rule controversial. It may be that the SEC can simply rescind its 1978 interpretation as an erroneous and strained interpretation of the “special compensation” language in the statutory definition to allow two-tier pricing programs. This would make good sense, but I have not seen any discussion about what the SEC intends to do about this.
Cerberus' acquisition of an 80.1% interest in Chrysler is being called a "watershed" event. It provides further evidence that there is no limit to private equity's power to take over a business. Stocks of Ford and GM rose yesterday, in the hope that if Cerberus can work out with the unions a solution to Chrysler's $18 billion liability for pension and health-care benefits, then the other auto makers will be able to do the same. There is also the irony of Chrysler Daimler's paying $677 million in cash to get rid of a company that it bought nine years ago for $36 billion. “We obviously overestimated the potential of synergies,” said Chrysler Daimler's CEO Zetsche. For a sampling of the stories, see NYTimes, A Corporate Divorce on the Cheap and In Deal, a Test for the U.A.W.; WSJ, Chrysler Deal Heralds New Direction for Detroit.
Monday, May 14, 2007
On May 11, the Commission charged Ajaz Rahim, a Pakistani banker who was employed by Faysal Bank in Karachi, Pakistan with insider trading based on material, non-public information he received from Hafiz Naseem, an employee of Credit Suisse (USA) LLC in New York. In amending its complaint to add Rahim as a defendant, the SEC alleged that, on Feb. 5, 6, 7, 8 and 23, 2007, Naseem telephoned Rahim and conveyed to him non-public, material information concerning the proposed but unannounced leveraged buyout of TXU Corp. and that Rahim, on Feb. 23, 2007, purchased 6,700 TXU call option contracts and 15,000 shares of TXU stock. According to the Commission, these purchases allowed him to reap, following the public announcement of the buyout, trading profits of approximately $5.1 million. The complaint also alleges that Naseem alerted him to pending business combinations and deals involving 9 other issuers for which Credit Suisse served as an investment banker or financial advisor, obtaining profits of $2,425,000. Finally, according to the complaint, Naseem, in order to insure he would obtain a personal, financial benefit from his misappropriations, in May 2006 opened up a brokerage account in Pakistan and granted trading authority over that account to Rahim, his "tippee."
On May 14, the Commission settled charges against Stephen J. Treadway (Treadway) relating to conflicts of interest involving "shelf space" payments. The Order finds that Treadway- the former Chief Executive Officer of both PA Fund Management LLC (PAFM), the investment adviser to the PIMCO Funds, and PA Distributors LLC (PAD), the distributor for the PIMCO Funds, and the former Chairman of the PIMCO Funds Multi-Manager Series (MMS Funds) Board of Trustees (MMS Board)--did not ensure that PAFM fulfilled its fiduciary duty to disclose to the MMS Board that the MMS Funds' brokerage commissions were being directed to broker-dealers to reduce PAD's payments for increased "shelf space" within the broker-dealers' distribution systems and that a corresponding conflict of interest existed for PAFM.
The Commission's Order specifically finds that between 2000 and 2003, PAD entered into shelf space arrangements with nine broker-dealers to promote the sale of all PIMCO Funds distributed by PAD. Treadway and other members of PAD approached PEA Capital LLC (PEA), the sub-adviser to the MMS Funds, to discuss whether PEA would be able to direct brokerage commissions on the MMS Funds' portfolio transactions, but did not tell PEA that directing brokerage commissions to certain broker-dealers would reduce PAD's cash payments for the shelf space arrangements. As the CEO of PAFM and PAD, Treadway approved of PAD's participation in the shelf space arrangements and negotiated the terms of some of the arrangements. The Order also finds that by encouraging PEA's use of fund assets to benefit, and in fact defray, the expenses of PAD, a third party to the MMS Funds, Treadway created a conflict of interest that he, as the CEO of PAFM and PAD and the individual through which PAFM addressed the MMS Board, should have disclosed. Treadway, however, when acting on behalf of PAFM and PAD, and when addressing the MMS Board, failed to disclose this conflict of interest and did not ensure that anyone else disclosed this information. As a result, the Order finds that Treadway willfully aided and abetted and caused PAFM's violation of Section 206(2) of the Investment Advisers Act of 1940.
The brokerage firms were lobbying the SEC hard to file an en banc petition for reconsideration of the D.C. Circuit's FPA v. SEC (invalidating the SEC rule exempting brokers that offered fee-based accounts from regulation as investment advisers), and in a recent speech Commissioner Atkins expressed the view that the SEC should. However, today it announced it would not. Instead, it is asking the court for a stay of the decision. Here are some excerpts:
The U.S. Securities and Exchange Commission today announced that it will ask a court to allow four months for investors and their brokers to respond in light of a court decision affecting an estimated one million fee-based brokerage accounts. In asking for a 120-day stay of the ruling ... the Commission announced it will not seek further review of the March 30, 2007 decision that affects customer accounts holding an estimated $300 billion.
"The Commission is committed to taking the opportunity provided by this decision to improve investors' ability to make educated decisions about their investment accounts and their financial services providers," said SEC Chairman Christopher Cox.
The Commission suggests that investors carefully consider changes to their accounts. It will consider whether further rulemaking or interpretations are necessary regarding the application of the Advisers Act to these accounts and the issues resulting from the court's decision. The Commission also will work with individual brokerage firms during the transition period as they respond to the March 30 decision. The goal will be to provide customers of the firms with the information and time they need to determine the appropriate form of securities services for them.
Chairman Cox also announced that he has approved additional emergency funding to accelerate an on-going outside study of the marketing, sale, and delivery of financial products and services to investors in this area. The previously-commissioned study, by the RAND Corporation, will be delivered to the Commission no later than December 2007, several months ahead of schedule. The results of the study are expected to provide an important empirical foundation for considering improvements in regulatory and legislative rules that date back to the 1930s.
More insider trading charges involving a husband-and-wife team:
The Securities and Exchange Commission today filed insider trading charges against a former Oracle Corporation vice president who allegedly traded on confidential information about Oracle acquisition targets gleaned from his spouse, who was also employed by Oracle. The Commission alleges that Christopher Balkenhol, 40, of San Mateo, Calif., learned about secret merger negotiations from his wife, who worked at Oracle as the lead executive assistant to Oracle's CEO and two co-presidents. Without admitting or denying the Commission's allegations, Balkenhol agreed to settle the action against him, paying a total of approximately $198,000—including a penalty of nearly $100,000.
The Commission's complaint, which was filed in the United States District Court for the Northern District of California, alleges that Balkenhol traded in a series of Oracle acquisition targets during 2004 and 2005. Balkenhol allegedly learned about the planned acquisitions from his wife, who had access to the schedules of Oracle's three top executives and was aware of significant merger-related meetings. The Commission does not allege that Balkenhol's wife knew about Balkenhol's illicit trades. Rather, the complaint alleges that Balkenhol breached a duty not to misuse confidences gleaned from his wife for his own gain.
A class action has been filed against the Chicago Board of Trade's board of directors in connection with the planned merger with Chicago Mercantile Exchange. The suit alleges that the CBOT board breached its fidcuciary duty by not obtaining the highest price. CBOT turned down a higher bid from IntercontinentalExchange. See SIFMA, Lawsuit against Chicago Board of Trade may delay merger.
Rupert Murdoch continues to woo the Bancroft family. In a letter sent over the weekend to family members, he offered to place a Bancroft family member on the News Corp. board and promised an independent editorial board, stating that "maintaining editorial integrity" was of utmost importance to him. He also asked to meet with family and company representatives. See WSJ, Murdoch Sends Letter to Bancrofts WSJ has posted the letter on its website.
I urge all of you to visit a wonderful new blog, Corporate Law and Democracy, by Professor Renee Jones at Boston College Law School, intended to be a repository for multidisciplinary thought on "corporate law and democracy" and the influence of "corporations and corporate law on political and social structure." Renee has posted some provocative and insightful posts and, in addition, has some first-rate contributions by stellar guest-bloggers-- this week, it's her (soon to be ex-) colleague Larry Cunningham (who is moving to George Washington).
Daimler Chrysler will sell a controlling interest in Chrysler to private equity firm Cerberus Capital Management for $7.4 billion, reversing the 1998 "merger of equals" that proved so unsuccessful. Chrysler will become the first major U.S. car dealer owned by private equity. Cerberus will acquire 80.1% of a new company, Chrysler Holding, with Daimler Chrysler keeping the remaining 19.9%. Daimler Chrysler will transfer Chrysler as a debt-free company; Chrysler's financial obligations for its pension and health care benefits will be retained by the Chrysler companies. Cerberus will invest $5 billion in the new company and another $1.05 in Chrysler's financial arm. In addition, Daimler Chrysler will invest $600 million in Chrysler. The German company will change its name to Daimler AG. The auto workers union expressed approval of the deal. See Chrysler Group to Be Sold for $7.4 Billion; WSJ, Cerberus to Buy 80.1% Stake In Chrysler Group. Daimler Chrysler's statement is available at the WSJ website.
Sunday, May 13, 2007
As many of you know, The Corporate Practice Commentator conducts an annual survey of the “ten best” corporate and securities articles (there are usually one or two more, because of ties). Law school professors in corporate and securities law are asked to select the best articles from a list of articles published during the year. Professor Robert B. Thompson of Vanderbilt conducts the survey and posts the results on his website.
The 2006 “Top Ten” was recently posted. In reviewing the list, I noted that it included only one woman, Fordham’s Jill Fisch. Wondering if 2006 was an aberration, I compared the lists since 2002. Here are the numbers:
2006. Twelve articles, seven of which were co-authored. A total of 20 authors, one of whom is a woman -- Fordham’s Jill Fisch (co-author).
2005. Eleven articles, two of which were co-authored. A total of 13 authors, one of whom is a woman -- Yale’s Roberta Romano (sole author).
2004. Eleven articles, four of which were co-authored. A total of 14 authors, five of whom are women – NYU’s Jennifer Arlen (co-author), National Bureau of Economic Research’s Alma Cohen (co-author), Vanderbilt’s Margaret Blair (sole author), Iowa’s Hillary Sale (sole author), UCLA’s Lynn Stout (sole author).
2003. Eleven articles, seven of which were co-authored. A total of 18 authors, three of whom are women -- Alma Cohen (co-author), Jill Fisch (co-author), Hillary Sale (co-author).
2002. Eleven articles, seven of which were co-authored. A total of 18 authors, none of whom is a woman.
The bottom line is that in the years 2002-2006 there are 51 individuals who appear on the lists, seven of whom are women (about 14%). If we compare only sole authors: there were 19 individuals, four (about 21%) of whom are women – Romano, Blair, Sale, Stout, each with one article – and 15 men with at least one article on the lists.
Where the professors taught is important in making the lists. All the U.S. professors, male and female, on the lists teach at first tier law schools (as ranked by U.S. News & World Report), and most of them are at schools at the top of the first tier: Harvard (6 professors); NYU (5 professors); Columbia (4 professors); Stanford, Vanderbilt, Yale (3 professors each); UCLA, Texas, Penn, Georgetown, California, USC (2 professors each); Fordham, Michigan, Duke, Wisconsin, Washington & Lee, Illinois, Arizona, Iowa (one professor each).
Where the article is published is also important in making the lists. These articles were published in a total of 25 publications. Harvard leads the pack (8 articles), followed by Vanderbilt and Stanford (6 articles each); Yale (four articles); NYU, Business Lawyer, Northwestern (3 articles each); Penn, UCLA, J.L. Econ.& Org., California, Duke, and Chicago (two each). Georgetown, Columbia, Illinois, Cornell, J.Corp. L., Michigan, Del.J. Corp. L., Tulane, J.Leg. Studies, Texas, and Washingon U. had one article each (one article appeared in two journals).
From these data, can we make any findings about the representation of women on the lists? While, in 2002-03, more than 30% of law professors were women, the more relevant information is the percentage of women teaching in the corporate and securities field, the percentage of senior women in the field, and, in particular, the percentage of senior women teaching in the field at first tier law schools. I would appreciate hearing from anyone who has collected these data.
Two Themes This Week:
(1) Insider Trading and Married Couples -- First, the SEC obtained a TRO against a Hong Kong husband and wife because of their suspiciously large purchases of Dow Jones stock in the weeks before the public announcement of the Murdoch bid. The wife's father is a business associate of a Dow Jones director. (There have been reports as well about large trades in Dow Jones options, but no one has been yet named. ) Second, another husband and wife team (both attorneys) pled guilty to insider trading charges as part of a federal investigation that last March named thirteen individuals as part of a trading ring. The wife was a compliance officer at Morgan Stanley. Third, another husband and wife team was charged with insider trading -- the wife was an analyst at Morgan Stanley and her husband was a hedge-fund analyst.
(2) Attorneys in Trouble -- In addition to the two attorneys who pled guilty to insider trading charges (see above), the former GC at Comverse Technologies was sentenced to prison for his role in that company's backdating of stock options.