Securities Law Prof Blog

Editor: Eric C. Chaffee
Univ. of Toledo College of Law

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Saturday, August 27, 2011

Choi, et alia on Mutual Fund Voting

Voting Through Agents: How Mutual Funds Vote on Director Elections, by Stephen J. Choi, New York University (NYU) - School of Law; Jill E. Fisch, University of Pennsylvania Law School - Institute for Law and Economics, and Marcel Kahan, New York University (NYU) - School of Law, was recently posted on SSRN.  Here is the abstract:

Shareholder voting has become an increasingly important focus of corporate governance, and mutual funds control a substantial percentage of shareholder voting power. The manner in which mutual funds exercise that power, however, is poorly understood. In particular, because neither mutual funds nor their advisors are beneficial owners of their portfolio holdings, there is concern that mutual fund voting may be uninformed or tainted by conflicts of interest. These concerns, if true, hamper the potential effectiveness of regulatory reforms such as proxy access and say on pay. This article analyzes mutual fund voting decisions in uncontested director elections. We find that mutual funds use a variety of strategies to economize on the costs of making voting decisions, including having funds in the same fund family vote in lockstep, voting virtually always in accordance with management recommendations, and voting virtually always in accordance with recommendations of ISS. Smaller fund families employ these strategies to a greater extent than larger families.

We further adduce evidence on how ISS recommendations affect fund voting. Funds that account for less than 10% of the assets in our sample exhibit a strong tendency to follow ISS recommendations, a much smaller percentage than funds that virtually always follow management recommendations (approximately 25% of assets). A much larger percentage (36% of the assets) votes in accordance with ISS withhold recommendations in approximately 50% of the cases. We conclude that the influence of ISS is due more to funds’ measured evaluation of the ISS recommendations rather than to funds blindly following these recommendations.

We find no evidence that funds in families that are affiliated with commercial banks, investment banks, or insurance companies have a stronger proclivity than independent funds to vote in accordance with management recommendations or to shield their votes from criticism in order to maintain good business relations or generate new business for their affiliates.

The largest fund families - Vanguard, Fidelity, and American Funds, each of which individually accounts for roughly 11% of total mutual fund assets - vote substantially differently both from each other and from ISS recommendations. This is strong evidence of heterogeneity in the voting behavior of mutual funds in director elections.

Finally, we examine the factors associated with high (in excess of 30%) withhold votes in director elections. An ISS withhold recommendation, in conjunction with at least one of four factors - a withhold vote by Fidelity, the director missing 25% of board meetings, the company having ignored a shareholder resolution that received majority support, and a Vanguard withhold vote on outside directors with business ties to the company - is associated with a 49% probability of receiving a high withhold vote. Directors in these groups account for 48% of all directors who received high withhold votes. By contrast, an ISS withhold recommendation that is not combined with one of these factors is associated with only a 21% probability of a high withhold vote, and the general probability of a high withhold vote is a mere 2%. These findings suggest steps that companies and directors should take to try to avoid high withhold votes. They are also evidence that not all ISS recommendations have the same impact on voting outcomes.

August 27, 2011 in Law Review Articles | Permalink | Comments (0) | TrackBack (0)

Bradford on Crowdfunding & Federal Securities Laws

Crowdfunding and the Federal Securities Laws, by C. Steven Bradford, University of Nebraska College of Law, was recently posted on SSRN.  Here is the abstract:

Crowdfunding - the use of the Internet to raise money through small contributions from a large number of investors - may cause a revolution in small-business financing. Through crowdfunding, smaller entrepreneurs, who traditionally have had great difficulty obtaining capital, have access to anyone in the world with a computer, Internet access, and spare cash to invest. Crowdfunding sites such as Kiva, Kickstarter, and IndieGoGo have proliferated and the amount of money raised through crowdfunding has grown to billions of dollars in just a few years.

Crowdfunding poses two issues under federal securities law. First, some, but not all, crowdfunding involves selling securities, triggering the registration requirements of the Securities Act of 1933. Registration is prohibitively expensive for the small offerings that crowdfunding facilitates, and none of the current exemptions from registration fit the crowdfunding model. Second, the web sites that facilitate crowdfunding may be treated as brokers or investment advisers under the ambiguous standards applied by the SEC.

I consider the costs and benefits of crowdfunding and propose an exemption that would free crowdfunding from the regulatory requirements, but not the antifraud provisions, of the federal securities laws. Securities offerings of $250,000 or less would be exempted if (1) each investor invests no more than $250 or $500 a year and (2) the offering is made on an Internet crowdfunding site that meets the exemption’s requirements. Exempted offerings would be required to include a funding target and could not close until that target was met. Until then, investors would be free to withdraw.

To qualify for the exemption, crowdfunding sites must (1) be open to the general public; (2) provide public communication portals for investors and potential investors; (3) require investors to fulfill a simple education requirement before participating; (4) prohibit certain conflicts of interest; (5) not offer investment advice or recommendations; and (6) notify the SEC that they are hosting crowdfunding offerings. Sites that meet these requirements would not be treated as brokers or investment advisers.

August 27, 2011 in Law Review Articles | Permalink | Comments (0) | TrackBack (0)

Krug on Investment Adviser Regulation and Hedge Funds

Institutionalization, Investment Adviser Regulation, and the Hedge Fund Problem, by Anita K. Krug, University of Washington School of Law, was recently posted on SSRN.  Here is the abstract:

 This Article contends that more effective regulation of investment advisers could be achieved by recognizing that the growth of hedge funds, private equity funds, and other private funds in recent decades is a manifestation of institutionalization in the investment advisory context. That is, investment advisers today commonly advise these “institutions,” which have supplanted other, smaller investors as advisory clients. However, the federal securities statute governing investment advisers, the Investment Advisers Act of 1940, does not address the role of private funds as institutions that now intermediate those smaller investors’ relationships to investment advisers. Consistent with that failure, investment adviser regulation regards a private fund, rather than the fund’s investors, as both the “client” of the fund’s adviser and the “thing” to which the adviser owes its obligations. The regulatory stance that the fund is the client, which recent financial regulatory reform did not change, renders the Advisers Act incoherent in its application to investment advisers managing private funds and, more importantly, thwarts the objective behind the Advisers Act: investor protection. This Article shows that policymakers’ focus should be trained primarily on the intermediated investors – those who place their capital in private funds – rather than on the funds themselves and proposes a new approach to investment adviser regulation. In particular, investment advisers to private funds should owe their regulatory obligations not only to the funds they manage but also to the investors in those funds

August 27, 2011 in Law Review Articles | Permalink | Comments (0) | TrackBack (0)

Brown on Business Roundtable v. SEC

Shareholder Access and Uneconomic Economic Analysis: Business Roundtable V. SEC, by J. Robert Brown Jr., University of Denver Sturm College of Law, was recently posted on SSRN.  Here is the abstract:

Business Roundtable v. SEC, arose out of a legal challenge to what is probably the most controversial rule ever adopted by the Securities and Exchange Commission (SEC or Commission). Rule 14a-11 mandated that public companies allow long term shareholders to include nominees for the board of directors in the company’s proxy statement. The rule held out the promise that shareholders would be able to more easily nominate and elect their own candidates to the board. Access was popular among shareholders and strenuously opposed by public companies.

The DC Circuit struck down the rule, imposing a “nigh impossible” standard with respect to the applicable economic analysis. The decision far exceeded the standards set out by Congress and the courts with respect to cost/benefit analysis. Moreover, in making its decision, the panel relied on mistaken interpretations of the fiduciary obligations of both boards and pension plans. The short term impact of the decision is to make more difficult the implementation of a shareholder access rule. The long term implications are more severe. The decision effectively discourages the SEC from using rulemaking as a means of establishing legal requirements and instead encourages the use of more informal and less uniform methods such as no action letters and enforcement proceedings.

August 27, 2011 in Law Review Articles | Permalink | Comments (0) | TrackBack (0)

Pope on Crowdfunding & Small Offering Exemption

Crowdfunding Microstartups: It's Time for the Securities and Exchange Commission to Approve a Small Offering Exemption, by Nikki D. Pope, Santa Clara University School of Law, was recently posted on SSRN.  Here is the abstract:

As social networking websites and crowd-based problem-solving initiatives gain popularity, entrepreneurs have begun to consider them as possible tools in a fundraising method, known as “crowdfunding.” Current federal and state securities regulations, however, limit the ways in which such fundraising methods can be employed by entrepreneurs and early-stage companies. This article focuses on federal securities rules and regulations and recommends changes the Securities and Exchange Commission (the “Commission”) can implement in federal securities rules and regulations to foster such funding initiatives and facilitate capital formation, while achieving its mission to protect investors from fraudulent investment practices.

August 27, 2011 in Law Review Articles | Permalink | Comments (0) | TrackBack (0)

Friday, August 26, 2011

Bernanke on The U.S. Economy

Ben Bernanke gave his much-anticipated speech on The Near- and Longer-Term Prospects for the U.S. Economy in Jackson Hole, in which not much was said.

August 26, 2011 in News Stories | Permalink | Comments (0) | TrackBack (0)

Thursday, August 25, 2011

Buffett Invests $5 Billion in BofA

Bank of America Corporation announced today that it reached an agreement to sell 50,000 shares of Cumulative Perpetual Preferred Stock with a liquidation value of $100,000 per share to Berkshire Hathaway, Inc. in a private offering. The preferred stock has a dividend of 6 percent per annum, payable in equal quarterly installments, and is redeemable by the company at any time at a 5 percent premium.

Berkshire Hathaway will also receive warrants to purchase 700,000,000 shares of Bank of America common stock at an exercise price of $7.142857 per share. The warrants may be exercised in whole or in part at any time, and from time to time, during the 10-year period following the closing date of the transaction. The aggregate purchase price to be received by Bank of America for the preferred stock and warrants is $5 billion in cash.

"Bank of America is a strong, well-led company, and I called Brian to tell him I wanted to invest in it," said Berkshire Hathaway Chairman and Chief Executive Officer Warren Buffett. "I am impressed with the profit-generating abilities of this franchise, and that they are acting aggressively to put their challenges behind them. Bank of America is focused on their customers and on serving them well. That's what customers want, and that's the company's strategy."

August 25, 2011 in News Stories | Permalink | Comments (0) | TrackBack (0)

SEC's Next Meeting Considers Investment Company Act Issues

The next SEC Open Meeting is scheduled for August 31, 2011.  The subject matter of the Open Meeting will be:

Item 1: The Commission will consider whether to issue a concept release and request public comment on a wide range of issues under the Investment Company Act raised by the use of derivatives by investment companies regulated under that Act.
 
Item 2: The Commission will consider whether to issue two related releases. The first release is an advance notice of proposed rulemaking to solicit public comment on possible amendments to Rule 3a-7 under the Investment Company Act, the rule that provides certain asset-backed issuers with a conditional exclusion from the definition of investment company. The second release is a concept release to solicit public comment on interpretive issues related to the status under the Investment Company Act of companies that are engaged in the business of acquiring mortgages and mortgage-related instruments.

August 25, 2011 in SEC Action | Permalink | Comments (0) | TrackBack (0)

Top 10 Investor Scams

The North American Securities Administrators Association (NASAA) recently released its annual list of financial products and practices that threaten to trap unwary investors, many by taking advantage of investors troubled by lingering economic uncertainty and volatile stock markets.

The following alphabetical listing of the Top 10 financial products and practices that threaten to trap unwary investors was compiled by the securities regulators in NASAA’s Enforcement Section.

PRODUCTS: distressed real estate schemes, energy investments, gold and precious metal investments, promissory notes, and securitized life settlement contracts.

PRACTICES: affinity fraud, bogus or exaggerated credentials, mirror trading, private placements, and securities and investment advice offered by unlicensed agents.

August 25, 2011 in Other Regulatory Action | Permalink | Comments (0) | TrackBack (0)

Wednesday, August 24, 2011

SEC Obtains A Default Judgment Against Analyst in Galleon Insider Trading Case

The federal district court in S.D.N.Y. entered a Final Judgment by Default as to Deep Shah on August 23, 2011, in the SEC’s insider trading case, SEC v. Galleon Management, LP, et al., 09-CV-8811 (SDNY) (JSR). At the time of the alleged conduct, Shah was employed at Moody’s as a lodging industry analyst. The Commission alleged that Shah violated the federal securities laws by, among other things, tipping Roomy Khan, then an individual investor, to material, nonpublic information about: (a) the July 2007 acquisition of Hilton Hotels Corp. by the Blackstone Group; and (b) the March 2007 acquisition of Kronos Inc. by Hellman & Friedman. Khan traded on the basis of this information and also tipped others, who traded. Khan and others paid Shah cash for the inside information he tipped to Khan. Shah left Moody’s in late 2007 or early 2008, and he is believed to currently reside in India. Shah has failed to appear, answer or otherwise defend the Commission’s action.

August 24, 2011 in SEC Action | Permalink | Comments (0) | TrackBack (0)

Tuesday, August 23, 2011

SEC Warns About Advance Fee Funds Targeting Deaf Investors

The SEC’s Office of Investor Education and Advocacy issued an Updated Investor Alert to alert investors about “Imperia Invest IBC” and similarly-named companies that have a track record of targeting deaf investors to invest in “advance fee fraud” schemes. Advance fee fraud gets its name from the fact that an investor is asked to pay a fee up front -- in advance of receiving any proceeds, money, stock or warrants -- in order for the deal to go through. The bogus fee may be described as a “processing fee”, a commission, regulatory fee or tax, or some other incidental expense. Sometimes, advance fee frauds brazenly target investors who have already lost money in investment schemes.

August 23, 2011 in SEC Action | Permalink | Comments (0) | TrackBack (0)

Sunday, August 21, 2011

Wagner on Insider Trading to Combat Accounting Fraud

Gordon Gekko to the Rescue?: Insider Trading as a Tool to Combat Accounting Fraud, by Robert E. Wagner, Rutgers School of Law-Newark, was recently posted on SSRN.  Here is the abstract:

This Article puts forward that, counter-intuitively, one way to help avoid future accounting scandals such as WorldCom would be the legalization of “fraud-inhibiting insider trading.” Fraud-inhibiting insider trading is the subcategory of insider trading where: (1) information is present that would have a price-decreasing effect on stock if made public; (2) the traded stock belongs to an individual who will likely suffer financial injury from a subsequent stock price reduction if the trading does not take place; (3) the individual on whose behalf the trading occurs would have the ability to prevent the release of the information or to release distorted information to the public; and (4) the individual in question did not commit any fraudulent activities prior to availing himself of the safe harbor. Arguing that prohibiting all insider trading incentivizes corporate fraud, this Article begins by giving examples from recent cases in which insider trading could have been used to avoid significant harm. Next, the Article briefly discusses both the history of insider trading and the philosophical and policy arguments against it. This Article particularly focuses on the two most prominent arguments raised against insider trading: (1) that it erodes confidence in the market; and (2) that it is similar to theft and should be prosecuted accordingly. Previously unexamined empirical evidence suggests that the confidence argument may be incorrect and does not suffice to justify a prohibition on fraud-inhibiting insider trading. This Article also shows that while the property rights rationale is the strongest position against general insider trading, it is an insufficient basis to outlaw fraud-inhibiting insider trading. The Article concludes with a proposal that the courts, the Securities and Exchange Commission, or Congress enact a safe harbor to legalize fraud-inhibiting insider trading and thus enable the insider trading laws to more effectively achieve their purported goal of protecting the securities market and investors.

August 21, 2011 in Law Review Articles | Permalink | Comments (0) | TrackBack (0)

Rock on Shareholder Eugenics

Shareholder Eugenics in the Public Corporation, by Edward B. Rock, University of Pennsylvania Law School, was recently posted on SSRN.  Here is the abstract:

In a world of active, empowered shareholders, the match between shareholders and public corporations can potentially affect firm value. This article examines the extent to which publicly held corporations can shape their shareholder base. Two sorts of approaches are available: direct/recruitment strategies; and shaping or socialization strategies. Direct/recruitment strategies through which “good” shareholders are attracted to the firm include: going public; targeted placement of shares; traditional investor relations; the exploitation of clientele effects; and de-recruitment. “Shaping” or “socialization” strategies in which shareholders of a “bad” or unknown type are transformed into shareholders of the “good” type include: choice of domicile; choice of stock exchange; the new “strategic” investor relations; and capital structure. For each type of strategy, I consider the extent to which corporate and securities law facilitates or interferes with the strategy, as well as the ways in which it controls abuse. In paying close attention to the relationship between shareholder base and firms, this article attempts to merge investor relations, very broadly construed, with corporate governance.

August 21, 2011 in Law Review Articles | Permalink | Comments (0) | TrackBack (0)

Pinto on The Supreme Court & the 10b-5 Implied Remedy

The United States Supreme Court and Implied Causes of Action Under SEC Rule 10b-5: The Politics of Class Actions, by Arthur R. Pinto, Brooklyn Law School, was recently posted on SSRN.  Here is the abstract:

The chapter discusses how changing attitudes toward class actions have influenced the Supreme Court in cases involving implied private causes of action under Sec Rule 10b-5. As the makeup of the Court changed and issues concerning litigation and class actions became part of the political landscape, the Court’s view of these actions changed. Initially its view was a broad one based upon the need for flexibility and to promote the remedial purposes of the law in order to protect investors and the markets. But societal concerns about litigation abuses and judicial activism and a more pro business attitude moved the Court to narrow the reach of the law and these class actions. Over time new concerns about economic competiveness and global issues involving U.S. stock markets reflected in politics at the time also were important to the Court and reflected in its decisions. This history of the development of these private causes of action and the Court’s interpretation of SEC Rule 10b-5 illustrate how the politics of class actions and shifting attitudes and concerns reflected in society influenced its decisions and development of the law.

August 21, 2011 in Law Review Articles | Permalink | Comments (0) | TrackBack (0)

Green et alia on Investor Conferences & Analyst Research

Investor Conferences and the Changing Nature of Analyst Research, by T. Clifton Green, Emory University - Goizueta Business School; Russell E. Jame, University of New South Wales; Stanimir Markov, University of Texas at Dallas - School of Management; and Musa Subasi, University of Texas at Dallas- School of Management, was recently posted on SSRN.  Here is the abstract:

Market forces and new regulations have changed the emphasis of brokerage research away from stock recommendations and earnings forecasts and towards special services for select clients such as providing access to firm management. We examine how brokerage market shares are influenced by traditional published research and include a new measure of special service related to analyst-hosted investor conferences. Using a sample of institutional transactions, we find investor conferences have a significant effect on annual market share that is similar in magnitude to analyst coverage, as well as significant increases in market shares in conference stocks in the days following the event. Moreover, institutions pay higher commissions for conference stocks, which is consistent with compensation for premium research service.

August 21, 2011 in Law Review Articles | Permalink | Comments (0) | TrackBack (0)