Monday, March 31, 2008
FINRA today spelled out the options available to investors holding unexpectedly illiquid auction rate securities (ARS) because of recent developments in the credit market that have resulted in many ARS auctions failures: Auction Rate Securities: What Happens When Auctions Fail. What are the options? They include continuing to hold the securities, selling in the secondary market, liquidating other investments, or borrowing on margin. With respect to the latter, FINRA provides the appropriate warnings about the dangers of borrowing on margin, but this surely is a risky and dangerous option for most investors.
Some early reactions to Secretary Paulson's Blueprint:
From the SEC: "Recent events have provided further evidence, if more were needed, that financial services regulation in the United States needs to be better integrated among fewer agencies, with clearer lines of responsibility. Just as systemic risk cannot be neatly parceled along outdated regulatory lines, the overarching objective of investor protection can't be fully achieved if it fails to encompass derivatives, insurance, and new instruments that straddle today's regulatory divides. The proposed consolidation of responsibility for investor protection and the regulation of financial products deserves serious consideration as a way to better address the realities of today's markets."
From NASAA: "The Treasury Department’s blueprint is designed to boost Wall Street’s competitiveness, not Main Street investor protection. ... NASAA’s position was, and continues to be, unambiguous: the existing regulatory system, as it pertains to the securities markets, needs no fundamental restructuring. The focus of state securities regulators is clear and singular: investor protection must remain the centerpiece of the securities regulatory system."
From SIFMA: "Treasury has delivered a thoughtful and sweeping plan which should provoke intense discussion, debate and potential legislative changes. Our present regulatory framework was born of Depression era events and is not well suited for today's environment where billions of dollars race across the globe with the click of a mouse. That fact, teamed with the current market conditions, result in an universal agreement that it is time to modernize and revitalize the current system."
From FINRA: "Today's increasingly complex financial services landscape and fragmented regulatory environment has made it nearly impossible for the average investor to navigate the marketplace and fully understand the risks they may be exposed to and the protections they are entitled to. Investors shouldn't be left exposed and confused. Retail investors should get the same basic regulatory safeguards and protections no matter which investment product they choose.
All the information about Treasury Secretary Paulson's Blueprint for a Modernized Financial Regulatory Structure, including the 218 page report itself, is available at the Treasury's website. For those who don't want to wade through the whole report, here are links to the Secretary's speech and a factsheet.
The DePaul Business and Commercial Law Journal and the Commercial Law League of America announce the Sixth Annual Symposium, Lawyers, Law Firms, & the Legal Profession: An Ethical View of the Business of Law on May 1 from 10:30 a.m. to 5 p.m. Panels include: Lawyers in a Fee Quandary: Must the Billable Hour Die?; Lawyers in Transition: Ghosts from the Old Firm Haunting the New Firm;Lawyers in the Hot Seat: The State of Ethics & Professionalism. Tickets are $75.00 on or before April 1, 2008 and $90.00 after that date. Judges and students are free. For registration and sponsorship information, contact Don Carrillo, the Symposium Editor, at (312) 362-6178 or firstname.lastname@example.org, or Paula Lucas of the Commercial Law League of America at (800) 978-2552 or email@example.com.
Treasury Secretary Paulson will hold a press conference today to announce his plan to reorganize the financial markets, which was released over the weekend. The plan, a product of the Treasury Department's group that was originally convened to reduce financial regulation, is designed to replace the current overlapping and confusing system of regulation with a more streamlined approach. There would be three principal agencies with more oversight, but less direct regulatory powers: a prudential financial regulatory agency, a conduct of business regulatory agency and a corporate finance regulator. The SEC and CFTC would be merged and the financial market's self regulatory authority would be increased. Indeed, the SEC looks to be a big loser under this plan. Any reorganization will require Congressional action and would not happen quickly. The plan got mixed reactions from Congress. WSJ, Paulson Plan Begins Battle Over How to Police Market; WPost, Long Fight Ahead for Treasury Blueprint. One criticism of the plan is that it does not do anything to relieve the current Wall St. crisis or the plight of homeowners with mortgages in default. NYTimes, A Nervous Wall St. Seems Unsure What’s Next.
Sunday, March 30, 2008
Arbitration of Shareholder Claims: Why Change is Not Always a Measure of Progress, by JENNIFER J. JOHNSON , Lewis & Clark Law School, and EDWARD BRUNET, Lewis & Clark Law School, was recently posted on SSRN. Here is the abstraact:
Two Blue Ribbon business advisory panels have recently proposed arbitration to remedy the problems endemic to shareholder class action litigation. Critics have long assailed shareholder litigation as harmful to firms without conferring a corresponding benefit upon shareholders or the public. Contemporary criticism has focused on the circularity of the remedy in shareholder suits and the charge that even the potential for shareholder litigation harms the competitive edge of the U.S. financial markets. We contend that even accepting these criticisms at face value, arbitration is not the solution. The lure of arbitration as a panacea to cure the ills of litigation is based upon myths concerning modern arbitral realities. First, arbitrators apply substantive and undefined principles of fairness and equity rather than legal rules. Such decisions, once made, are virtually insulated from judicial review. While historically such a system constituted an efficient dispute resolution system between homogenous members of trade groups, modern consumer arbitration rarely takes place between those with any common understanding of applicable norms other than the law. Second, there is a hidden societal cost to moving to an arbitration system to redress securities law claims. Experience teaches us that mandatory arbitration causes the law to atrophy. This trend would be exacerbated in shareholder litigation, which is often based upon implied causes of action, that by their nature depend upon transparent judicial interpretation. Third, modern arbitration will not cure the ills of class action litigation. Arbitration today is no longer particularly quick or efficient in that it has incorporated many of the procedural appendages such as discovery that are common in litigation. However, the procedural protections against the most vexatious lawsuits against corporations would not operate in the world of arbitration. This danger would be intensified if class action arbitrations were allowed. This essay will critique the proposals calling for arbitration of shareholder claims and conclude that arbitration is not an attractive alternative to litigation.
Disclosure's Failure in the Subprime Mortgage Crisis, by STEVEN L. SCHWARCZ, Duke University - School of Law , was recently posted on SSRN. Here is the abstract:
This symposium article examines how disclosure, the regulatory focus of the federal securities laws, has failed to achieve transparency in the subprime mortgage crisis and what this failure means for modern financial securities markets.
Does Shareholder Voting Maximize Stock Market Value? , by YAIR JASON LISTOKIN , Yale Law School , was recently posted on SSRN. Here is the abstract:
This paper examines the relation between shareholder voting and stock market value from a novel empirical perspective. If voting maximizes value, then the outcome of close proxy contests should not have a systematic effect on stock prices; price setters will anticipate that voting aggregates information efficiently and will build this expectation into the price of the stock before the voting outcome is announced The paper shows, however, that close dissident victories are associated with significant positive movements in stock prices, while close management victories are associated with negative stock price effects. This suggests that voting outcomes favor management rather than maximizing value, with important policy ramifications. Viewed from a regression discontinuity (RD) design perspective, the study provides unique evidence that dissident control of decision making causes increases in stock value.
BACKDATING, by JEFFREY L. KWALL, Loyola University of Chicago - School of Law, and STUART DUHL,
Harrison & Held, LLP, was recently posted on SSRN. Here is the abstract:
Backdating is a much misunderstood and largely unexplored subject. It involves a wide range of conduct, some of which is an integral part of everyday law practice. To the layperson, backdating connotes wrongdoing. The propriety of backdating, however, depends upon its purpose and effect. Every lawyer should be capable of distinguishing legitimate backdating from improper backdating. Unfortunately, the dividing line is often far from clear.
Little guidance exists on backdating, notwithstanding its pervasiveness, the complexity of determining its propriety, and the serious consequences of a misjudgment. An in-depth examination of the day-to-day backdating issues that most business lawyers face cannot be found in the literature. This Article begins to fill that void.
This Article explains the different meanings of backdating, explores the reasons why it is difficult to distinguish legitimate backdating from improper backdating, examines the impact of disclosure on the propriety of backdating, and develops an analytical approach to assist business lawyers in wrestling with the difficult situations most will confront in their daily practices. By illuminating the subject, it is hoped that this Article will begin a much needed dialogue about backdating.
Insider Trading Before Accounting Scandals, by ANUP AGRAWAL, University of Alabama - Culverhouse College of Commerce & Business Administration, and TOMMY COOPER, University of Alabama - Culverhouse College of Commerce & Business Administration, was recently posted on SSRN. Here is the abstract:
We examine insider trading in a sample of over 500 firms involved in accounting scandals revealed by earnings-decreasing restatements, and in a control sample of non-restating firms. Managers are less likely to trade before accounting scandals than before other major corporate events such as takeovers or bankruptcies. Managers who sell stock while earnings are misstated potentially commit two crimes, earnings manipulation and insider trading, and their selling increases investor scrutiny and the likelihood of the manipulation being revealed. We analyze open-market stock transactions of five groups of corporate insiders: top management, top financial officers, all corporate officers, board members, and blockholders. We examine their purchases, sales and net sales during the misstated period and a pre-misstated period, using a difference-in-differences approach. Using several measures of the level of insider trading, we estimate cross-sectional regressions that control for other determinants of the level of insider trading. For the full sample of restating firms, we find weak evidence that top managers of misstating firms sell more stock during the misstated period than during the pre-misstated period, relative to the control sample. But in a number of sub-samples where insiders had greater incentives to sell before the revelation of accounting problems, we find strong evidence that top managers of restating firms sell substantially more stock during the misstated period. These findings suggest that managers' desire to sell their stockholdings at inflated prices is a motive for earnings manipulation. Our finding that insiders brazenly trade on a crime for which they are potentially culpable suggests that insider trading is more widespread in the market than has been found in the prior literature.
Accountability and Competition in Securities Class Actions: Why 'Exit' Works Better than 'Voice,' by JOHN C. COFFEE Jr., Columbia Law School, was recently posted on SSRN. Here is the abstract:
The consensus view has long been that the class action plaintiff's attorney possesses excessive discretion to prefer his own interests over those of the class. Critics have thus favored remedies such as the "lead plaintiff" provision of the Private Securities Litigation Reform Act ("PSLRA"), which in theory give class members a stronger voice. Empirically, however, such "voice-based" reforms appear to have had no more than a modest impact. But an alternative remedy appears to be more promising: "exit-based" reforms that seek to provoke greater competition between class counsel and attorneys soliciting class members to opt out of the class and file individual actions with them in state court. Unnoticed by academics, a major trend towards institutional investors opting out of securities class actions has developed over the past five years. More importantly, these opt outs appear to be recovering per share amounts that are a multiple of the class per share recovery. This development poses a variety of issues that this paper examines: (1) Do the opt outs gains come at the expense of those who remain in the class?; (2) Can defendants feasibly restrict opt outs and how should courts respond to such attempts?; (3) Are institutional investors under a fiduciary or ERISA-based duty to opt out?; and (4) Will greater competition produce greater accountability?
Friday, March 28, 2008
The SEC granted a request for a no-action position from Loews Corporation ("Loews"), to permit Loews to make open market purchases of its shares in connection with Loews' announced intention to dispose of its ownership interest of its wholly owned subsidiary Lorillard, Inc. ("Lorillard"). Pursuant to the plan, Loews will offer holders of Loews Common Stock the opportunity to exchange such shares of Loews in exchange for shares of Lorillard. The SEC granted an exemption from Rule 14e-5 subject to a number of conditions.
JP Morgan Settles SEC Proceeding Relating to Activities as Trustee to National Century Financial Enterprises
The SEC settled administrative proceedings against JPMorgan Chase & Co relating to its activities as an asset-backed indenture trustee for certain special-purpose subsidiary programs (programs) of National Century Financial Enterprises, Inc. (NCFE), formerly a Dublin, Ohio healthcare financing company, during the approximate period 1999-2002. According to the SEC's Order, JPMorgan Chase and Bank One Corporation, which merged into JPMorgan Chase in 2004, at the instruction of NCFE, made transfers between reserve accounts in the programs that contradicted NCFE's representations to investors about how the reserve accounts would be used and contravened the requirements of the indentures governing the programs. In addition, the Order finds that pursuant to NCFE's instructions, JPMorgan Chase and Bank One made month-end transfers of huge amounts of reserve account funds and that these transfers helped NCFE mask substantial and growing reserve account shortfalls. Based on the above, the Order finds that JPMorgan Chase was a cause of NCFE's violations of Section 17(a)(3) of the Securities Act, requires JPMorgan Chase to cease and desist from committing or causing any violations and any future violations of Section 17(a)(3) of the Securities Act, and orders JPMorgan Chase to pay disgorgement of $1,286,808.82 and prejudgment interest of $711,335.76. JPMorgan Chase consented to the issuance of the Order without admitting or denying any of the findings therein. In the Matter of JPMorgan Chase & Co.
It is reported that the Bush administration will announce two nominations for the SEC, Luis Aguilar, an Atlanta lawyer, and Elisse Walter, a senior vice president at FINRA. These two names have been mentioned many times in the past few months as possible successors to the two Democratic Commissioners who resigned -- Annette Nazareth and Raul Campos. WSJ, Bush Set to Nominate SEC Democrats.
Xerox announced a $670 million settlement of a shareholders' suit filed in 2000 charging it with inflating earnings. The company will also place $125 million in reserves for potential liability for three other pending suits. KPMG will pay $80 million to settle charges against it. Neither admitted any wrongdoing.
In 2002 Xerox settled an SEC action involving allegations of accounting fraud during the same period and paid a $10 million penalty, which, at that time, was the largest corporate penalty ever. In 2005 KPMG paid $22.5 million to settle SEC charges involving Xerox. Xerox also restated five years' worth of financial statements. NYTimes, Xerox to Pay $670 Million to Settle Securities Case; WSJ, Xerox, KPMG Settle Shareholder Suit.
Thursday, March 27, 2008
The SEC filed a complaint in the United States District Court for the Northern District of Texas against Gary L. McDuff, Gary L. Lancaster, and Robert T. Reese, for their roles in the fraudulent and unregistered offer and sale of interests in the Lancorp Financial Fund Business Trust (Lancorp Fund). The SEC alleges that between at least March 2003 and July 2005, Reese, McDuff and Lancaster offered and sold interests in the Lancorp Fund with false promises concerning the permissible investments, the payment of commissions, and the payment of management fees. Instead, the Complaint alleges that the defendants directed the Lancorp Fund to invest over $9 million in a fraudulent, high-yield Ponzi scheme, paid McDuff and Reese over $300,000 in undisclosed commissions, and paid Lancaster a management fee well in excess of that allowed by the PPM.
Without admitting or denying the allegations set forth in the Complaint, defendants Lancaster and Reese have consented to the entry of a final judgment permanently enjoining them from engaging in securities violations Lancaster has agreed to an order finding him liable for disgorgement of $336,229, plus prejudgment interest of $56,156.39, and Reese has agreed to an order finding him liable for disgorgement of $26,792, plus prejudgment interest of $4,474.75. However, payment of those amounts will be waived, and no civil penalties imposed, based on their respective sworn statements of financial condition and other documents. The Commission's action against McDuff is continuing.
Treasury Secretary Paulson said that the Fed should have greater oversight over securities firms since it is now lending money to them. He becomes the first top administration official to endorse the idea since the Fed stepped in to bail out Bear Stearns. WSJ, Paulson Endorses New Clout For Fed Over Securities Firms. In the face of criticism that the SEC did not act quickly enough to address Bear Stearns' problems, Christopher Cox said that the firm's troubles resulted from lack of market confidence, not liquidity. WSJ, SEC Role Is Scrutinized In Light of Bear Woes.
A report by the bankruptcy court examiner into the collapse of New Century Financial, one of the largest subprime lenders before its bankruptcy, criticizes its auditor KPMG for enabling certain "significant improper and imprudent practices." It also says that the auditor acquiesced to the client for fear of being replaced. A spokesperson for KPMG stated it strongly disagreed with the findings. NYTimes, Inquiry Assails Accounting Firm in Lender’s Fall; WSJ, KPMG Aided New Century Missteps, Report Says.
Bain Capital and THL Partners, the equity firms who contracted to buy Clear Channel Communications, filed suit against the six banks that backed out of financing the sale. The plaintiffs claim that the banks, from early on, intended to back out of the deal unless it could renegotiate the terms. NYTimes, 6 Banks Are Sued in Clear Channel Deal; WSJ, Buyout Firms Sue Lenders Over Busted Deal For Clear Channel.
Wednesday, March 26, 2008
The SEC settled its federal district court action against Hollinger Inc., a Canadian corporation and the controlling shareholder of Sun-Times Media Group, Inc., formerly known as Hollinger International, Inc., pending in the United States District Court for the Northern District of Illinois. The SEC filed its action against Hollinger Inc., Conrad M. Black, Hollinger International's former Chairman and CEO, and F. David Radler, Hollinger International's Deputy Chairman and COO, alleging that from approximately 1999 through 2003, the defendants engaged in a fraudulent and deceptive scheme to divert cash and assets from Hollinger International, Inc. ("Hollinger International"), through a series of related party transactions and also made misrepresentations regarding these transactions in Hollinger International's filings with the Commission. Radler previously entered into a settlement with the Commission concerning the allegations against him in this case.
Hollinger Inc., without admitting or denying the allegations in the complaint, has consented to the entry of a final judgment which permanently enjoins it from federal securities violations. The Final Judgment also orders Hollinger Inc. to pay a total of $21,279,471.84 in disgorgement, representing $16,550,000 in alleged non-competition payments received by Hollinger Inc., plus prejudgment interest thereon in the amount of $4,729,471.84. The $21,279,471.84 paid to Hollinger International in satisfaction of the judgment against Hollinger, Inc. and Conrad Black in the action captioned Hollinger International, Inc. v. Black, et al., 844 A.2d 1022 (Del. Ch. C.A. No. 183-N), shall be credited dollar-for-dollar toward the disgorgement in this action. The settlement is subject to approval of U.S. District Judge William T. Hart.