June 9, 2011
Goldman Pays $10 Million and Halts "Huddles"
Massachusetts Securities Division and Goldman Sachs entered a consent order in which Goldman will pay $10 million and stop its practice of "huddles" between research analysts and traders.
Nasdaq Files Proposed Rule Changes on Reverse Merger Companies
NASDAQ filed with the SEC a proposed rule change requiring additional disclosure about companies that become public through reverse mergers. NASDAQ explained that because of the extraordinary level of public attention in listed companies that went public via a Reverse Merger, where an unlisted operating company becomes a public company by merging with a public shell, Nasdaq staff has adopted heightened review procedures for Reverse Merger applicants. However, Nasdaq also believes that additional requirements for listing Reverse Merger companies are appropriate to discourage inappropriate behavior on the part of companies, promoters and others. Accordingly, Nasdaq proposes to adopt certain “seasoning” requirements for Reverse Mergers.
SEC Charges Copper King Mining Posted Misleading Info on Website
The SEC filed a complaint in federal district court against Copper King Mining Corp. (Copper King), Alexander Lindale, LLC (Alexander Lindale), Mark D. Dotson (Dotson), Wilford R. Blum (Blum) and Stephen G. Bennett (Bennett). The complaint alleges that Copper King and its prior President and CEO, Dotson, authored and distributed false and misleading information on Copper King’s Internet website regarding the company’s ability to produce revenue, its ability to extract significant amounts of copper and other metals, its receipt of an irrevocable purchase order for its copper, and its receipt of a firm funding commitment for $100 million to pay for operations and build an ore processing mill.
SEC Announces Open Meetings on Various Topics
The SEC announced several forthcoming Open Meetings:
Wednesday, June 15, 2011 The Commission will consider whether to propose amendments to Rule 17a-5 – the broker-dealer reporting rule – under the Securities Exchange Act of 1934.
Wednesday, June 22, 2011. The subject matters of the Open Meeting will be:
Item 1: The Commission will consider whether to adopt new rules and rule amendments under the Investment Advisers Act of 1940 to implement provisions of the Dodd-Frank Wall Street Reform and Consumer Protection Act. These rules and rule amendments are designed to give effect to provisions of Title IV of the Dodd-Frank Act that, among other things, increase the statutory threshold for registration of investment advisers with the Commission, require advisers to hedge funds and other private funds to register with the Commission, and address reporting by certain investment advisers that are exempt from registration.
Item 2: The Commission will consider whether to adopt rules that would implement new exemptions from the registration requirements of the Investment Advisers Act of 1940 for advisers to venture capital funds and advisers with less than $150 million in private fund assets under management in the United States. These exemptions were enacted as part of the Dodd-Frank Wall Street Reform and Consumer Protection Act. The new rules also would clarify the meaning of certain terms included in a new exemption for foreign private advisers.
Item 3: The Commission will consider whether to adopt a rule defining “family offices” that will be excluded from the definition of an investment adviser under the Investment Advisers Act of 1940.
Roundtable Open Meeting on Thursday, June 16, 2011. The SEC and the CFTC will hold public roundtable discussions concerning the definitions of “swap dealer,” “security-based swap dealer,” “major swap participant,” and “major security-based swap participant” in the context of certain authority that Section 712(d)(1) of the Dodd-Frank Wall Street Reform and Consumer Protect Act granted the Agencies.
June 8, 2011
SE Readopts Without Change Beneficial Ownership Rules
The SEC readopted, without change, the relevant portions of existing rules that govern beneficial ownership determinations under Sections 13 and 16 of the Securities Exchange Act of 1934. The Commission took this action to preserve the application of the existing beneficial ownership rules to persons who purchase or sell security-based swaps after the effective date of new Section 13(o) under the Exchange Act, which was added by Section 766 of the Dodd-Frank Act. Readoption of the relevant portions of Exchange Act Rules 13d-3 and 16a-1 confirms that following the July 16, 2011 statutory effective date of Section 13(o), persons who purchase or sell security-based swaps will remain within the scope of these rules to the same extent as they are now.
Two Ad Execs Settle Charges of Soliciting Pledges to Purchase Beer Company
The SEC announced a settlement with two advertising executives who launched a campaign to buy a beer company through a solicitation of investors on Facebook and Twitter without first registering with securities regulators and making the necessary disclosures. Michael Migliozzi II and Brian William Flatow consented to a cease and desist order to settle charges that they directed investors to their website, BuyaBeerCompany.com, and solicited pledges for a hoped-for $300 million purchase of the Pabst Brewing Company.
The SEC's order found that Migliozzi and Flatow intended to solicit funds in two stages. In the first stage, the two sought pledges and required that pledgors only supply an e-mail address, first name, last name, and pledge amount. If they received $300 million in pledges, the second stage would consist of collecting the pledges and undertaking to purchase Pabst. In addition, Migliozzi and Flatow created a Facebook page and Twitter account in order to advertise their offering. Would-be investors visiting the website were told that each investor would receive a certificate of ownership as well as beer of a value equal to the amount invested. In the end, the two never received the $300 million in pledges, and never collected any money.
The SEC's order finds that Migliozzi and Flatow violated Section 5(c) of the Securities Act of 1933.
Second Circuit: Broker's Fiduciary Duty Based on Relationship of Trust & Confidence
The Second Circuit recently set forth its view of the nature of a broker's fiduciary duty in affirming the conviction of a broker for his involvement in a pump-and-dump scheme, U.S. v. Wolfson (2d Cir. June 7, 2011). According to the court,
The evidence at trial showed that Wolfson artificially inflated the prices of certain thinly-traded securities in which he had amassed a substantial interest, and then unloaded those holdings on unsuspecting investors. Of particular relevance to Wolfson’s conviction, the scheme relied on corrupt stock brokers who sold the securities for prices far above their actual value. In exchange, Wolfson rewarded the brokers with exorbitant commissions. Some of the brokers failed to disclose the fact of the commissions to their customers. Others made affirmative misrepresentations about the size of these commissions.
On appeal, Wolfson argued that the brokers had no duty to disclose their commissions; accordingly, since his fraud convictions relied on the breach of that duty to establish a scheme to defraud, it must be overturned. In addition, Wolfson argued that, even if a duty to disclose might arise in some contexts, the district court gave an improper fiduciary duty instruction. The court rejected both arguments.
On the fiduciary duty question, the court stated:
Although we have long held that there “is no general fiduciary duty inherent in an
ordinary broker/customer relationship,” we have also recognized that “a relationship of trust and
confidence does exist between a broker and a customer with respect to those matters that have
been entrusted to the broker.” ...[A] discretionary account is not the sole means by which a fiduciary duty may be created in the context of a broker-customer relationship; we have “recognized that particular factual circumstances may serve to create a fiduciary duty between a broker and his customer even in the absence of a discretionary account.”...Put otherwise, it is well settled in this Circuit that the presence of a discretionary account automatically implies a general fiduciary duty between a broker and customer, but the absence of a discretionary account does not mean that no fiduciary duty exists.
The appellate court also upheld the jury instructions, set forth below, as virtually identical to those in a previous dump and dump case:
Whether a fiduciary relationship exists is a matter of fact for you, the jury, to determine. At the heart of the fiduciary relationship lies reliance and de facto control and dominance. The relationship exists when confidence is reposed on one side and there is resulting superiority and influence on the other. One acts in a fiduciary capacity when the business which he or she transacts or the money or property which he or she handles is not his own or for his or her own benefit but for the benefit of another person, as to whom he or she stands in a relation implying and necessitating great confidence and trust on the one part and a high degree of good faith on the other part.
If you find that the government has shown beyond a reasonable doubt that a fiduciary relationship existed, such as between any one of the brokers and the customers you next consider whether there was a breach of the duties incumbent upon the fiduciary in the fiduciary relationship and specifically whether the defendant caused the broker or brokers to breach their fiduciary duties to customers. I instruct you that a fiduciary owes a duty of honest services to his customer, including a duty to disclose all material facts concerning the transaction entrusted to him or her. The concealment by a fiduciary of material information which he or she is under a duty to disclose to another, under circumstances where the nondisclosure can or does result in harm to the other is a [b]reach of the fiduciary duty and can be a violation of the federal securities laws, if the government has proven beyond a reasonable doubt the other elements of this offense, as I explained them to you.
June 7, 2011
Deutsche Boerse & NYSE Euronext Plan a Special Dividend after Closing
Deutsche Boerse AG and NYSE Euronext announced that they have recommended to the Board of Directors of the holding company of the merged group, Alpha Beta Netherlands Holding N.V. (“Holdco”), to pay a one-time special dividend of €2.00 per Holdco share from Holdco’s capital reserves shortly after closing of the combination of Deutsche Boerse and NYSE Euronext. The dividend would be paid shortly after the closing of the merger.
Based on the share exchange ratios agreed under the business combination agreement, the intended distribution translates into a special dividend of €2.00 for every Deutsche Boerse share which is tendered in the current exchange offer (exchange ratio 1:1) and into a special dividend of €0.94 / US $1.37 per NYSE Euronext share (exchange ratio 0.47:1 and assuming an exchange rate of $1.46 per euro). The total dividend amount paid out by Holdco is expected to amount to approximately €620 million / US $905 million, assuming 100 percent acceptance by Deutsche Boerse shareholders in the current exchange offer.
Time Period to Comment on Credit Risk Retention Requirements is Extended
The comment period on the proposed rules to implement the credit risk retention requirements of Dodd-Frank is extended to August 1, 2011, to allow interested persons more time to analyze the issues and prepare their comments. Originally, comments were due by June 10, 2011. The proposed rule generally would require sponsors of asset-backed securities to retain at least 5 percent of the credit risk of the assets underlying the securities and would not permit sponsors to transfer or hedge that credit risk. The proposal was issued by the Office of the Comptroller of the Currency, the Federal Reserve, the Federal Deposit Insurance Corporation, the U.S. Securities and Exchange Commission, the Federal Housing Finance Agency, and the Department of Housing and Urban Development.
SEC Suspends Trading in 17 Penny Stocks
The SEC today suspended trading in 17 microcap stocks because of questions about the adequacy and accuracy of publicly available information about the companies, which trade in the over-the-counter (OTC) market. The trading suspensions spring from a joint effort by SEC regional offices in Los Angeles, Miami, New York, and Philadelphia; its Office of Market Intelligence; and its new Microcap Fraud Working Group.
The 17 companies and their ticker symbols are:
American Pacific Rim Commerce Group (APRM), based in Citra, Fla.
Anywhere MD, Inc. (ANWM), based in Altascadero, Calif.
Calypso Wireless Inc. (CLYW), based in Houston.
Cascadia Investments, Inc. (CDIV), based in Tacoma, Wash.
CytoGenix Inc. (CYGX), based in Houston.
Emerging Healthcare Solutions Inc. (EHSI), based in Houston.
Evolution Solar Corp. (EVSO), based in The Woodlands, Texas.
Global Resource Corp. (GBRC), based in Morrisville, N.C.
Go Solar USA Inc. (GSLO), based in New Orleans.
Kore Nutrition Inc. (KORE), based in Henderson, Nev.
Laidlaw Energy Group Inc. (LLEG), based in New York City.
Mind Technologies Inc. (METK), based in Cardiff, Calif.
Montvale Technologies Inc. (IVVI), based in Montvale, N.J.
MSGI Security Solutions Inc. (MSGI), based in New York City.
Prime Star Group Inc. (PSGI), based in Las Vegas, Nev.
Solar Park Initiatives Inc. (SOPV), based in Ponte Verde Beach, Fla.
United States Oil & Gas Corp. (USOG), based in Austin, Texas.
HSBC Settles Maoff-Related Class Action with Ireland Fund
HSBC Holdings plc, in an SEC 6-K Report, announced that it has settled for $62.5 million a class action stemming from its role as a custodian to a fund, Thema International Fund, that invested with Bernard Madoff. According to the report:
As previously disclosed, various HSBC companies provided custodial, administration and similar services to a number of funds incorporated outside the United States whose assets were invested with Madoff Securities. Various plaintiffs have commenced Madoff-related proceedings against numerous defendants in a multitude of jurisdictions. Various HSBC companies have been named as defendants in suits in the United States, Ireland, Luxembourg and other jurisdictions....
One of these funds was Thema, a limited liability company incorporated and authorised in Ireland as a UCITS fund under the European Communities (Undertaking for Collective Investments in Transferable Securities) Regulations 1985. HSBC Securities Services (Ireland) Limited ("HSSI") and HSBC Institutional Trust Services (Ireland) Limited ("HTIE") provided custodial, administration and other services to Thema. HSBC estimates that the purported net asset value of Thema as at 30 November 2008 was US$1.1bn and that Thema's actual transfers to Madoff Securities minus its actual withdrawals is approximately US$312m....
The Settlement, which is solely in respect of investors in Thema, shall in no way be construed or deemed to be evidence of or an admission or concession with respect to any claim of any fault or liability or wrongdoing or damage whatsoever. HSBC considers it has good defences against the Madoff-related claims that have been brought against it and will continue to defend the other Madoff- related proceedings vigorously.
June 6, 2011
SEC Charges California Attorney with Misappropriating Information from Daughter
On June 3, 2011, the SEC charged Dean A. Goetz, a California attorney, with insider trading in the securities of Advanced Medical Optics, Inc. in advance of the January 12, 2009 announcement that Abbott Laboratories, Inc. would acquire Advanced Medical Optics in a tender offer. Goetz traded based on nonpublic information regarding the impending merger and acquisition that he misappropriated from his daughter, a lawyer who, at the time, worked for the law firm representing Advanced Medical Optics in the transaction. Without his daughter's knowledge, Goetz misappropriated confidential deal information from her while she worked on the transaction at her parents’ house over the holidays in December 2008. On January 8, 2009 – shortly before the market was to close on the day the deal was originally scheduled to be announced – Mr. Goetz bought 900 shares of Advanced Medical Optics, and earned illegal profits of $11,418.
Without admitting or denying the SEC’s allegations, Goetz agreed to settle the charges against him. and pay full disgorgement of $11,418, plus prejudgment interest of $925.65, and a penalty of $11,418, for a total of $23,761.65.
SEC & Madoff Employee Settle Fraud Charges
The SEC proposes to settle charges that Eric Lipkin, a longtime employee at Bernard L. Madoff Investment Securities LLC (BMIS), helped Bernard L. Madoff and his firm deceive and defraud investors and regulators about the massive Ponzi scheme. If approved by the court, Lipkin will consent to a proposed partial judgment, which will impose a permanent injunction against Lipkin and require him to disgorge ill-gotten gains and pay a fine in an amount to be determined by the court at a later time.
According to the SEC's complaint, for more than a decade, Lipkin helped Madoff defraud investors and mislead auditors and regulators about Madoff’s fraudulent, multi-billion dollar advisory operations. According to the complaint, Lipkin processed payroll records for “no-show” employees, falsified records of investors’ account holdings, and played a role in executing the entirely fictitious investment strategy that Madoff and BMIS claimed to be pursuing on behalf of its clients.
Lipkin also helped Madoff deceive regulators by preparing fake Depository Trust Clearing Corporation (DTCC) reports showing the sham investments for clients. Lipkin received annual bonuses from the firm, including for his work to mislead auditors and examiners, and he received $720,000 from Madoff to purchase a house, an amount he never paid back.
Halliburton: Plaintiffs Need Not Prove Loss Causation at Class Cert Stage
The U.S. Supreme Court unanimously held, in Erica P. John Fund, Inc. v. Halliburton Co.(Download Halliburton), that securities fraud plaintiffs do not have to prove loss causation in order to obtain class certification. In a 10 page opinion, Chief Justice Roberts concisely rejected the Fifth Circuit's requirement of loss causation at the class certification stage, as "not justified by Basic or its logic....Loss causation addresses a matter different from whether the investor relied on a misrepresentation...." "Loss causation has no logical connection to the facts necessary to establish the efficient market predicate to the fraud-on-the market theory."
In fact, Halliburton conceded at the oral argument that the 5th Circuit was wrong to require plaintiffs to prove loss causation in order to invoke Basic's presumption of reliance and sought to revise the Fifth Circuit's analysis -- the court didn't mean "loss causation," it meant "price impact." Justice Roberts made short work of this: "We do not accept Halliburton's wishful interpretation of the Court of Appeals' opinion. As we have explained, loss causation is a familiar and distinct concept in securities law; it is not price impact." "Whatever Halliburton thinks the Court of Appeals meant to say, what it said was loss causation....Based on those words, the decision below cannot stand."
The Court explicitly does not "address any other question about Basic, its presumption, or how and when it may be rebutted."
June 5, 2011
Thomas et al. on M&A Litigation
Litigation in Mergers and Acquisitions, by Randall S. Thomas, Vanderbilt Law School; European Corporate Governance Institute (ECGI); Ronald W. Masulis, University of New South Wales (UNSW) - School of Banking and Finance; Vanderbilt University - Owen Graduate School of Management; Vanderbilt University - Law School; and Robert B. Thompson, Georgetown University Law Center, was recently posted on SSRN. Here is the abstract:
Using hand-collected data, we examine the targeting of lawsuits in M&A transactions, the effect of these suits on offer completion rates and takeover premiums, and the factors that lead to positive settlement outcomes in these cases. Shareholder lawsuits form the vast majority of all lawsuits. We find that M&A offers that are subject to lawsuits are completed at a significantly lower rate than offers that are not subject to litigation, after controlling for offer features, M&A financial and legal adviser reputation, and industry and time fixed effects, as well as selection bias. However, litigation significantly increases the takeover premium in deals that are completed. Economically, the expected rise in the takeover premium more than offsets the fall in the probability of deal completion, so there is a rise in the expected takeover premium paid in offers that are subject to pre-deal-completion litigation. Examining the different types of lawsuits, suits challenging controlling shareholder squeeze-outs are significantly more likely to lead to settlement and the payment of cash settlements. Target lawsuits, generally designed to impede deal completion, are significantly associated with higher takeover premia in completed deals.
Whitehead on the Volcker Rule
The Volcker Rule and Evolving Financial Markets, by Charles K. Whitehead, Cornell Law School, was recently posted on SSRN. Here is the abstract:
The Volcker Rule prohibits proprietary trading by banking entities - in effect, reintroducing to the financial markets a substantial portion of the Glass-Steagall Act’s static divide between banks and securities firms. This Article argues that the Glass-Steagall model is a fixture of the past - a financial Maginot Line within an evolving financial system. To be effective, new financial regulation must reflect new relationships in the marketplace. For the Volcker Rule, those relationships include a growing reliance by banks on new market participants to conduct traditional banking functions.
Proprietary trading has moved to less-regulated businesses, in many cases, to hedge funds. The result is likely to be an increase in overall risk-taking, absent market or regulatory restraint. Ring-fencing hedge funds from other parts of the financial system may be increasingly difficult as markets become more interconnected. For example, new capital markets instruments - such as credit default swaps - enable banks to outsource credit risk to hedge funds and other market participants. Doing so permits banks to extend greater amounts of credit at lower cost. A decline in the hedge fund industry, therefore, may prompt a contraction in available credit by banks that are no longer able to manage risk as effectively as before.
In short, even if proprietary trading is no longer located in banks, it may now be conducted by less-regulated entities that affect banks and banking activities. Banks that rely on hedge funds to manage credit risk will continue to be exposed to proprietary trading - perhaps less directly, but now also with less regulatory oversight, than before. The Volcker Rule, consequently, fails to reflect an important shift in the financial markets, arguing, at least initially, for a narrow definition of proprietary trading and a more fluid approach to implementing the Rule.
Johnson on Securities Class Actions in State Court
Securities Class Actions in State Court, by Jennifer J. Johnson, Lewis & Clark Law School, was recently posted on SSRN. Here is the abstract:
Over the past two decades, Congress has gradually usurped the power of state regulators to enforce state securities laws and the power of state courts to adjudicate securities disputes. This Paper evaluates the impact of Congressional preemption and preclusion upon state court securities class actions. Utilizing a proprietary database, the Paper presents and analyzes a comprehensive dataset of 1500 class actions filed in state courts from 1996-2010. The Paper first examines the permissible space for state securities class actions in light of Congressional preclusion and preemption embodied in the 1998 Securities Litigation Uniform Standards Act (SLUSA) and Class Action Fairness Act of 2005 (CAFA). The Paper then presents the state class action filing data detailing the numbers, classifications, and jurisdictions of state class action cases that now occupy the state forums. First, as expected, the data indicates that there are few traditional stock-drop securities class actions litigated in state court today. Second, in spite of the debate over the impact of SLUSA and CAFA on 1933 Act claims, very few plaintiffs attempt to litigate these matters in state court. Finally, the number of state court class actions involving merger and acquisition (M&A) transactions is skyrocketing and now surpasses such claims filed in federal court. Moreover, various class counsel file their M & A complaints in multiple jurisdictions. The increasingly large number of multi-forum M&A class action suits burden the defendants and their counsel, the judiciary and even plaintiffs’ lawyers themselves. The paper concludes that absent effective state co-ordination, further Congressional preemption is possible, if not likely.
Sharpe on Board Function after 2008 Financial Crisis
Rethinking Board Function in the Wake of the 2008 Financial Crisis, by Nicola F. Sharpe, University of Illinois College of Law, was recently posted on SSRN. Here is the abstract:
Following the 2008 financial crisis the federal government made capital investments in more than 650 companies. The government’s involvement was not limited to mere financial investment. In many cases, the government became involved with the corporations’ board of directors. The Essay examines the pressing corporate governance questions raised by this involvement. The Essay uses an agency theory lens to examine the government’s response to the financial crisis of 2008, and explores the government’s role as board member. The Essay then takes a step back and discusses how the financial crisis and accompanying federal bailout represent a larger failure in how boards of directors are conceptualized. The Essay provides some preliminary thoughts on the gap between principal-agent analysis, the federal bailout, and the reality of the board of directors as an effective monitoring mechanism. Specifically, the Essay argues that we must reevaluate board composition with an emphasis on the board members’ expertise and redefine the function of the board to include involvement in the firm’s strategic decision-making process. The Essay concludes that to better understand corporate failure and to truly improve the efficacy of a board’s monitoring function, we must first develop a theory that takes better account of the current corporate failures and craft potential solutions that balance the role of the board as monitor with that of executives as managers.
Curtis & Morley on Mutual Fund Excessive Fee Litigation
An Empirical Study of Mutual Fund Excessive Fee Litigation: Do the Merits Matter?, by Quinn Curtis, University of Virginia School of Law, and John Morley, University of Virginia School of Law, was recently posted on SSRN. Here is the abstract:
This paper presents the first comprehensive empirical study of mutual fund excessive fee liability under § 36(b) of the Investment Company Act. This unique form of liability, which was upheld by the Supreme Court last year in Jones v. Harris Associates, allows shareholders to sue a fund’s advisers on the theory that the fund’s fees are simply too high, even if the fees have been fully and accurately disclosed. Relying on a hand-collected dataset of all excessive fee complaints filed between 2000 and 2009, we find that the size of a fund’s family is the strongest predictor of whether the fund will be targeted for an excessive fee suit; fees are a much weaker predictor. During our study period funds in the smallest one-third of management complexes were almost never targeted, even though these funds were the most likely to charge fees at the high end of the fee distribution. We find no evidence that funds affected by excessive fee suits reduced their fees after the filing of the suits relative to unaffected funds, and we find some evidence that affected funds actually increased their fees relative to unaffected funds. We find no evidence that fees were related to case outcomes or that advisers experienced reputational penalties as a result of lawsuits. We find no evidence that greater board independence reduced the likelihood that a fund would be targeted. This paper is relevant to the general debate about whether the merits matter in class and derivative litigation, because the merits of excessive fee suits are uniquely easy to observe and analyze.