Wednesday, March 26, 2008
The Senate Finance Committee Chairman Max Baucus and Sen. Charles Grassley, the panel's ranking member, said they're requesting information about the Fed's role in the JP Morgan Bear Stearns merger -- "exact details of the sale agreement, how and by whom it was negotiated, and all parties to it," and called the acquisition a "taxpayer-backed" transaction. "With jurisdiction over federal debt, it's the Finance Committee's responsibility to pin down just how the government decided to front $30 billion in taxpayer dollars for the Bear Stearns deal, and to monitor the changing terms of the sale," said Baucus, D-Mont., in a statement. The Finance Committee made the request in a letter to Federal Reserve Chairman Ben Bernanke, Federal Reserve Bank of New York CEO Timothy Geithner, Treasury Secretary Henry Paulson and both of the firms' chief executives -- J.P. Morgan's Jamie Dimon and Bear's Alan Schwartz. It requests an answer by close of business day on March 28. UPDATE: Senators Seek Information On Fed's Role In Bear Stearns Deal
Motorola plans to spin off its unprofitable cellphone business to its shareholders, a move urged by Carl Icahn, who owns about 6% of the stock and is seeking to elect his nominees to the board. Last week the company offered him two seats on the board if he would drop his proxy fight. Icahn has brought suit in Delaware seeking access to corporate documents to determine if the board has breached its fiduciary duty to the shareholders. WSJ, Motorola to Split Off Handset Unit Amid Pressure from Activist Icahn.
Enron Creditors Recovery Corp. and Citigroup agreed to a $1.66 billion settlement of claims relating to the bank's role in the collapse of Enron. Citigroup is the last of eleven banks to settle creditors' claims, the others having settled for nearly $1.76 billion. The Citigroup trial was scheduled to begin next month. In January the bank asked the bankruptcy court to dismiss the charges, and just last week it sought to transfer the case to federal district court. WSJ, Citigroup to Pay $1.66 Billion To Settle Enron Litigation.
Goldman Sachs joins the crowd and filed a registration statement to underwrite a "blank check" IPO to raise $350 million for Liberty Lane Acquisition Corp. Renamed Special Purpose Acquisition Companies, or SPACs, these companies typically have a deadline of two years to complete an acquisition with the funds raised. This SPAC has a different structure than most; the insiders are contributing $3.5 million, in contrast to the typical 2-4%, and will receive less if the acquisition is successful -- 7.5% in contrast to other deals where the percentage may be as high as 20%. In addition, the offered units consist of one share of common stock and one-half a warrant, in contrast to the usual one share and one warrant per unit. WSJ, Goldman Writes Out 'Blank Check'.
Two pension plans have sued the Bear Stearns board in Delaware, alleging that the $10 price for Bear Stearns stock offered by JP Morgan is "grossly inadequate" and that the board breached its duty in agreeing to the price. They seek a preliminary injunction to stop Bear from selling 95 million shares (39.5%) to JP Morgan to lock up the deal. WSJ, Big Task: Digesting a Bear.
Tuesday, March 25, 2008
Aflac's proxy statement formally invites shareholders to vote on the company's performance-based compensation. According to the company's press release, this is the first time shareholders at a major American public company will vote on executive compensation. Aflac will announce the results at its May 5 shareholders meeting.
The U.S. Chamber of Commerce Center for Capital Markets Competitiveness will host its 2nd Annual Capital Markets Summit on Wednesday, March 26, 2008, from 9:00am to 4:30pm. The event is scheduled to be on CNBC, and can be viewed via webcast.
Featured Speakers include:
The Honorable Henry M. Paulson, Jr., Secretary, U.S. Department of Treasury
Thomas Renyi, Executive Chairman, The Bank of New York Mellon, and Chairman, The Financial Services Roundtable
Robert Greifeld, President and Chief Executive Officer, The NASDAQ OMX Group
James Turley, Chairman and Chief Executive Officer, Ernst & Young
Tom Donohue, President and Chief Executive Officer, U.S. Chamber of Commerce
Linda Thomsen, Director of the Division of Enforcement, U.S. Securities and Exchange Commission
The Center also announced its new report: Strengthening U.S. Capital Markets: A Challenge for All Americans, also available at its website.
Monday, March 24, 2008
The SEC announced a series of actions it intends to take to further the implementation of the concept of mutual recognition for high-quality regulatory regimes in other countries.
The Commission contemplates taking the following actions:
Exploring initial agreements with one or more foreign regulatory counterparts, which would be based upon a comparability assessment by the SEC and by the foreign authority of one another's regulatory regimes.
Considering adoption of a formal process for engaging other national regulators on the subject of mutual recognition. This process could be accomplished through rulemaking or other appropriate mechanisms, possibly informed by one or more initial agreements with other regulators.
Developing a framework for mutual recognition discussions with jurisdictions comprising multiple securities regulators tied together by a common legal framework, including Canada (which has no national securities regulator, but rather provincial regulators) and the European Union (whose national securities regulators are subject to supranational legislation and directives).
Proposing reforms to Rule 15a-6 in order to improve the process by which U.S. investors have access to foreign broker-dealers.
The SEC charged Canadian pharmaceutical company Biovail Corporation and its former CEO, former CFO, and two current senior executives with engaging in a number of fraudulent accounting schemes and making a series of misstatements to analysts and investors. The SEC's complaint alleges that present and former senior Biovail executives, obsessed with meeting quarterly and annual earnings guidance, repeatedly overstated earnings and hid losses in order to deceive investors and create the appearance of achieving earnings goals. When it ultimately became impossible to continue concealing the company's inability to meet its own earnings guidance, Biovail actively misled investors and analysts about the reasons for the company's poor performance. Biovail settled the SEC's charges and will pay a $10 million penalty. Four current or former Biovail senior executives still face SEC charges: former chairman and CEO Eugene Melnyk; former CFO Brian Crombie; current controller John Miszuk; and current CFO Kenneth G. Howling.
A FINRA Hearing Panel issued a decision that imposed a 90-day suspension, a concurrent 10-day suspension, and a $12,500 fine against Scott Mathis, Chairman and CEO of New York's Investprivate, Inc. (now known as DPEC Capital, Inc.), for failing to disclose tax liens and two customer complaints on his Form U4s. Mathis and Investprivate were originally charged by FINRA with securities fraud, but those charges were later withdrawn. The hearing panel decision addressed the last outstanding charges brought by NASD (FINRA's predecessor) in 2004 against Mathis. FINRA's Enforcement Department previously settled several other charges from that 2004 action against Investprivate; Mathis; Donald Geraghty, the firm's Director of Compliance; and Ronald Robbins, Executive Vice President of Investprivate's parent company, Diversified Biotech Holdings Corporation.
JPMorgan Chase and Bear Stearns announced amendments to the merger and guaranty agreements, which are available at the Bear Stearns website. The shares of Bear Stearns are now valued at $10 for purposes of the share exchange into JPM shares. In addition, JPM will purchase 95 million newly issued Bear shares at that price, which will give it 39.5% ownership of the company. While the rules of the New York Stock Exchange generally require shareholder approval prior to the issuance of securities that are convertible into more than 20% of the outstanding shares of a listed company, the NYSE's Shareholder Approval Policy provides an exception in cases where the delay involved in securing shareholder approval for the issuance would seriously jeopardize the financial viability of the listed company. The joint press release states that "In accordance with the NYSE rule providing that exception, the Audit Committee of Bear Stearns' Board of Directors has expressly approved, and the full Board of Directors has unanimously concurred with, Bear Stearns' intended use of the exception."
In addition, the JPM guaranty has been significantly expanded and clarified, and there is a Q&A at the Bear website explaining how it works. Finally, the Fed's $30 billion special financing was amended so that JPM will bear the first $1 billion of losses associated with the Bear assets being financed and the Fed will bear the remaining $29 billion.
The New York Times reports that JPMorgan Chase is negotiating to increase its offer for Bear Stearns stock to $10, up from the $2 agreed upon last weekend, as unhappy Bear Stearns shareholders threaten to vote down the merger agreement. The Fed, however, is resisting any increase, since Treasury Secretary Paulson has emphasized that the government's involvement was necessary to provide stability to the marketplace, and paying the Bear Stearns shareholders any more would make the merger look more like a bailout of the firm and its shareholders. The Bear Stearns board reportedly is also considering selling a block of stock to JPMorgan Chase to reduce the percentage of Bear Stearns shares needed to approve the merger.
Because of the haste in which the merger was negotiated, the document may contain drafting errors. One provision commits JPMorgan Chase to guarantee Bear Stearns trades even if the shareholders vote down the deal. NYTimes, JPMorgan in Negotiations to Raise Bear Stearns Bid.
Sunday, March 23, 2008
Systemic Risk, by STEVEN L. SCHWARCZ, Duke University School of Law, was recently posted on SSRN. Here is the abstract:
This article is the first major work of legal scholarship on systemic risk, under which the world's financial system can collapse like a row of dominos. There is widespread confusion about the causes and even the definition of systemic risk, and uncertainty how to control it. This article attempts to provide a conceptual framework for examining what risks are truly "systemic," what causes those risks, and how, if at all, those risks should be regulated.
It begins by carefully examining what systemic risk really means, cutting through the confusion and ambiguity to establish basic parameters. Economists and other scholars historically have tended to think of systemic risk primarily in terms of financial institutions such as banks. However with the growth of disintermediation, in which companies can access capital market funding without going through banks or other intermediary-institutions, greater focus should be devoted to financial markets and the relationship between markets and institutions.
Using this integrated perspective, the article derives a working definition of systemic risk. It then uses this definition to examine whether systemic risk should be regulated. To that end, the article examines how risk itself - in particular, financial risk - should be regulated and then inquires how that regulatory framework should change by reason of the financial risk being systemic.
A threshold question is whether regulatory solutions are appropriate for systemic risk. The article argues they are because, like a tragedy of the commons, no individual market participant has an incentive, absent regulation, to limit its risk taking in order to reduce the systemic danger to other participants and third parties.
Dr. Jones and the Raiders of Lost Capital: Hedge Fund Regulation, Part II, a Self-Regulation Proposal, by J.W. VERRET, George Mason University - School of Law; Delaware Court of Chancery, was recently posted on SSRN. Here is the abstract:
Hedge funds are a fairly new asset class utilized by institutional investors and wealthy individuals. These funds can sometimes achieve remarkable returns. However, the market practice for fund managers is to charge performance fees that greatly exceed any other investment type in the financial services sector, leading some hedge fund managers to engage in illicit behavior, including fraud, that violates their duty to their investors and tempts institutional investors to violate their fiduciary duty to their principals.
This exploration examines a registration requirement, previously instituted by the Securities and Exchange Commission (SEC) to combat instances of hedge fund fraud, which was struck down during the summer of 2006. This study relies on a survey of general literature on financial regulation, specific commentary on the hedge fund regulatory reforms instituted, models of self-regulation, and analogous examples in other areas of financial regulation that have been successful. The result is a critique of the previous regulatory regime and proposals that will make it more effective.
The rapid expansion of hedge fund investments is transforming the price discovery function of the securities markets, resulting in more efficient valuation and robust flows of capital. However, these innovative strategies morph so rapidly and operationally they are so much leaner, that the simple regulatory strategies of the Securities Acts of 1933, 1934, and 1940 do not lend themselves to cookie cutter application. Further, the decision makers are sharply divided. The Administration has taken a firm stance in not supporting hedge fund regulation. Congress, under Democratic control, has signaled that it is clearly interested in advancing regulation. The SEC, under its previous chairman, was 3-2 in favor of added regulation, though the United States Court of Appeals for the District of Columbia subsequently overturned the form as it was adopted. The current chairman does not support hedge fund registration.
The future consequences of this market shift are far from certain. The challenge is crafting a lasting and expensive governmental administrative structure with justification that must rest, in part, on faith in a particular regulatory philosophy or market efficiency theory. The present incarnation of the market dynamic is entirely novel. Maybe we will institute a regime that will constrain the benefits hedge funds offer. Maybe we will continue to fly blind across a cliff that will make previous financial disasters look like child's play. Risk is part of the financial regulatory game just as much as it is the essence of finance itself. The only reasonable response is to learn from what worked in the past and attempt to model the variables that will persist in the future. Therefore, I am proposing a mean between the thus far advanced regulatory philosophies, using principles we find by analogy in other areas of financial regulation.
A self-regulatory model that utilizes the inherent advantage of firms regulating each other is a major theme of the policy recommendations presented. Crafting regulatory safe harbors, permissive information access, and designing legal defenses that encourage the operation of a self-regulatory entity to monitor this industry can help to overcome the severe disadvantage that bureaucratic regulators face in this field.
Draft Report of the Securities Law Subcommittee of the Task Force on Extraterritorial Jurisdiction of the International Bar Association, by MARGARET E. TAHYAR, Davis Polk & Wardwell; JAAP WILLEUMIER, Stibbe, ERIC J. PAN, Yeshiva University - Benjamin N. Cardozo School of Law; HOWELL E. JACKSON, Harvard Law School, and EILIS FERRAN, University of Cambridge - Faculty of Law; European Corporate Governance Institute (ECGI), was recently posted on SSRN. Here is the abstract:
The International Bar Association's Securities Law Subcommittee of the Task Force on Extraterritorial Jurisdiction, comprised of a panel of academics, practitioners, senior in-house counsel at financial institutions and former regulators, has produced this draft report examining the need for reform of the regulation of the global securities markets. The report reviews approaches to addressing problems such as mutual recognition, regulatory convergence and disparities in enforcement intensity and makes a series of recommendations. The Subcommittee urges reform of domestic regulatory systems with a view towards its international impact and argues that such reform should be an urgent priority for legislative and regulatory bodies in major financial centers.
Regulation and Bonding: The Sarbanes-Oxley Act and the Flow of International Listings, by JOSEPH D. PIOTROSK, Stanford University; University of Chicago - Graduate School of Business, and SURAJ SRINIVASAN, University of Chicago - Graduate School of Business, was recently posted on SSRN. Here is the abstract:
In this paper, we examine the economic impact of the Sarbanes-Oxley Act (SOX) by analyzing foreign listing behavior onto U.S. and U.K. stock exchanges before and after the enactment of SOX in 2002. Using a sample of all listing events onto U.S. and U.K. exchanges from 1995-2006, we develop an exchange choice model that captures firm-level, industry-level, exchange-level, and country-level listing incentives, and test whether these listing preferences changed following the enactment of SOX. After controlling for firm characteristics and other economic determinants of these firms' exchange choice, we find that the listing preferences of large foreign firms choosing between U.S. exchanges and the London Stock Exchange's (LSE) Main Market did not change following the enactment of SOX. In contrast, we find that the likelihood of a U.S. listing among small foreign firms choosing between the NASDAQ and LSE's Alternative Investment Market decreased following the enactment of SOX. The negative effect among small firms is consistent with these marginal companies being less able to absorb the incremental costs associated with SOX compliance. The screening of smaller firms with weaker governance attributes from U.S. exchanges is consistent with the heightened governance costs imposed by SOX
Corporate Fraud and Business Conditions: Evidence from IPOs, by TRACY YUE WANG, University of Minnesota - Twin Cities - Carlson School of Management, ANDREW WINTON, University of Minnesota - Twin Cities - Carlson School of Management, and XIAOYUN YU, Indiana University Bloomington - Department of Finance, was recently posted on SSRN. Here is the abstract:
Using a sample of firms that went public between 1995 and 2002, we examine whether a firm's incentive to commit fraud when raising external capital varies with investor beliefs about industry business conditions as predicted by Povel, Singh and Winton (2007). We document a concave relationship between fraud propensity and optimism in investor beliefs. A firm is more likely to commit fraud when investors are more optimistic about the firm's industry prospect. Nevertheless, the probability of fraud decreases in the presence of extreme investor optimism, as the firm is able to obtain funding without misrepresenting information to outside investors. We also find evidence that venture capitalists and underwriters have different monitoring incentives. When venture capitalists are present, fraud is less likely for low investor beliefs but more likely for high investor beliefs; this suggests that venture capitalists primarily monitor to seek good returns for their investment and thus take investor beliefs into account. By contrast, underwriters' monitoring choices appear to be more concerned with preventing fraud per se so as to protect their reputations. These findings are consistent with the predictions from Povel, Singh and Winton (2007). Our results suggest that regulators and auditors should be especially vigilant during booms.
Friday, March 21, 2008
The SEC announced that the United States Attorney's Office for the Southern District of Florida unsealed an Indictment charging Michael Lauer and four other individuals with one count of conspiracy to commit mail, wire and securities fraud and six counts of wire fraud. If convicted, Lauer faces a maximum sentence of 20 years and a $250,000 fine for each count of wire fraud and five years and a $250,000 fine for the conspiracy count. The Indictment also seeks forfeiture of properties obtained, directly or indirectly as a result of the alleged criminal violations. The Indictment alleges that from at least October 1999 through July 2003, Lauer, as founder and primary manager, formed and directed several hedge funds, collectively known as the Lancer Group hedge funds, to manipulate the month-end closing prices of shares of thinly-traded shell companies' securities, to falsely overstate the value of the Lancer Group's holdings. According to the Indictment, Lauer purchased large quantities of restricted stock at pennies per share in private transactions and then purchased small amounts of the same securities for the Lancer Group to drive up the price by the end of the trading day. Lauer then falsely valued the securities held by the Lancer Group, including the restricted shares, at the much higher closing price, to pump-up the performance fees paid to the management companies, attract new investors to buy into the hedge funds, and induce current investors in the hedge funds.
SEC Chair Christopher Cox sent a letter to the chairman of the Basel Committee on Banking Supervision expressing strong support for its planned updated guidance on liquidity management for banking organizations in light of the recent market turmoil. Chairman Cox Letter to Basel Committee in Support of New Guidance on Liquidity Management
Arthur Levitt, former SEC Chair, calls for regulatory reforms in a Wall St. Journal op-ed piece, including:
Beyond these immediate fixes, what's needed to restore public confidence is a more wholesale reconsideration of how we can inject greater transparency into the markets and bring about a change in attitude on the part of business leaders and policy makers that puts the interests of investors first. This may require a more fundamental restructuring of how we regulate the markets -- for instance, merging the SEC and the Commodities Futures Trading Commission to create a single securities regulator -- and giving that regulator the resources and the authority to do its job, something the SEC currently lacks.
WSJ, Regulatory Underkill.