Saturday, June 8, 2013
In Quest of the Arbitration Trifecta, or Closed Door Litigation?: The Delaware Arbitration Program, by Thomas Stipanowich, Pepperdine University School of Law, was recently posted on SSRN. Here is the abstract:
The Delaware Arbitration Program established a procedure by which businesses can agree to have their disputes heard in an arbitration proceeding before a sitting judge of the state’s highly regarded Chancery Court. The Program arguably offers a veritable trifecta of procedural advantages for commercial parties, including expert adjudication, efficient case management and short cycle time and, above all, a proceeding cloaked in secrecy. It also may enhance the reputation of Delaware as the forum of choice for businesses. But the Program’s ambitious intermingling of public and private forums brings into play the longstanding tug-of-war between the traditional view of court litigation as a public venue for private dispute resolution and the and perception of courts as institutions that represent and are accountable to the public. A constitutional challenge based on third parties’ right of access to court proceedings resulted in a district court ruling that arbitration proceedings heard before sitting judges of the Delaware Chancery Court were “essentially” non-jury civil trials and thus were subject to public access. The case raises legitimate questions about the appropriateness of structuring a program in which sitting judges serve as arbitrators and preside over a procedure that is effectively shielded from public view. It also implicates issues regarding the use of public resources in ostensibly private disputes, and even the way our justice system is funded. This article explores the factors that provided the impetus for the Delaware Arbitration Program and analyzes the arguments and policy considerations for and against the district court’s decision
Legal Diversification, by Kelli A. Alces, Florida State University College of Law, was recently posted on SSRN. Here is the abstract:
The greatest protection investors have from the risks associated with capital investment is diversification. This Essay introduces a new dimension of diversification for investors: legal diversification. Legal diversification of investment means building a portfolio of securities that are governed by a variety of legal rules. Legal diversification protects investors from the risk that a particular method of minimizing agency costs will prove ineffective and allows investors to own securities in a variety of firms, with each security governed by the most efficient set of legal rules given the circumstances of the investment. Diversification of investment by legal rules is possible because of the varied menu of legal rules firms can choose from when organizing and raising capital. The most recent addition to the securities laws, the JOBS Act, may compromise the diversity of legal rules that protects investors by pushing even more firms toward organizing as public corporations, thereby threatening to curtail or eliminate the variety that allows effective diversification.
This Essay makes several contributions to the literature. By introducing legal diversification, it reveals a new understanding of how investors, issuers, and society can benefit from maintaining a variety of legal rules to govern investment in businesses. The corporate law scholarship has long advocated preserving a variety of rules under which firms can organize, but it has yet to consider how investors can take advantage of that variety to protect themselves before market competition has revealed the “best” rules. Legal diversification also complements recent literature emphasizing the importance of diversity in financial regulation by highlighting another reason diversity of legal rules is important to healthy capital markets. Legal diversification fills gaps in the literature advocating regulatory diversity by offering an explanation for why that diversity is a valuable protection for investors and an indispensable mechanism for allowing firms to choose the most efficient legal rules to govern their organization and operation.
Public Governance, by Hillary A. Sale, Washington University in Saint Louis - School of Law, was recently posted on SSRN. Here is the abstract:
This Article develops a theory of public governance as a form of publicness by exploring corporate governance and decision making, and developing them with a more textured understanding of the nature of corporations and their role. It does so through the lens of two recently enacted federal statues, Sarbanes-Oxley and Dodd-Frank, and by deconstructing the “private” zone and reconceiving it with an understanding of publicness.
Corporate actors who govern without this deeper understanding of their roles and relationships lose their self-regulation privileges. The most recent increase in the federalization of corporate governance occurred when corporate actors failed to exercise their choices with an understanding of the nature of publicness. They took private ordering for granted. They treated it as a right rather than a privilege. They failed to grasp the actual and potential roles of the media, stakeholders, politicians, and others who wanted changes in the distribution of corporate power and who could succeed after scandals. Publicness, both as a process and an outcome, grows when corporate actors are greedy, when they cheat, and when they fail. The resulting crises and scandals become the vehicle for publicness.
Simply put, corporate failures expose “private” choices. Actors outside of the corporation and Wall Street scrutinize the failures. Think Occupy Wall Street and bloggers more generally. The scrutiny and concomitant increase in publicness make transparent the privileged nature of the corporate private zone. They reveal the lawmakers’ choices about private ordering and self-regulation. They highlight the spaces not yet legally defined: those that were omitted. They create pressure for more reform and public governance. The result is more publicness.
Regulating Ex Post: How Law Can Address the Inevitability of Financial Failure, by Iman Anabtawi, University of California, Los Angeles (UCLA) - School of Law, and Steven L. Schwarcz, Duke University - School of Law, was recently posted on SSRN. Here is the abstract:
Unlike many other areas of regulation, financial regulation operates in the context of a complex interdependent system. The interconnections among firms, markets, and legal rules have implications for financial regulatory policy, especially the choice between ex ante regulation aimed at preventing financial failure and ex post regulation aimed at responding to that failure. Regulatory theory has paid relatively little attention to this distinction. Were regulation to consist solely of duty-imposing norms, such neglect might be defensible. In the context of a system, however, regulation can also take the form of interventions aimed at mitigating the potentially systemic consequences of a financial failure. We show that this dual role of financial regulation implies that ex ante regulation and ex post regulation should be balanced in setting financial regulatory policy, and we offer guidelines for achieving that balance.
The Danger of Difference: Tensions in Directors’ Views of Corporate Board Diversity, by Kimberly D. Krawiec, Duke University - School of Law; John M. Conley, University of North Carolina (UNC) at Chapel Hill - School of Law; and Lissa L. Broome, University of North Carolina (UNC) at Chapel Hill - School of Law, was recently posted on SSRN. Here is the abstract:
This Article describes the results from fifty-seven interviews with corporate directors and a limited number of other persons (including institutional investors, search firm personnel, and the like) regarding their views on corporate board diversity. It highlights numerous tensions in these views. Most directors, for instance, proclaim that diverse boards are good, but very few directors can articulate their reasons for this belief. Some directors have suggested that diverse boards work better than non-diverse boards, but gave relatively few concrete examples of specific instances where a female or minority board member made a special contribution related to that director’s race or gender. Many directors noted the importance of collegiality and getting along in the boardroom, while simultaneously extolling the advantages of different perspectives in avoiding group think. Although all acknowledged the importance of fitting in, few considered whether this impeded the role of “outsiders” providing a diverse perspective. This Article also explores directors’ thoughts on why progress in improving board diversity has been so slow if most agree that diversity is an important goal.
Dynamic Regulation of the Financial Services Industry, by Wulf A. Kaal, University of St. Thomas, Minnesota - School of Law, was recently posted on SSRN. Here is the abstract:
Governance adjustments via stable rules in reaction to financial crises are inevitably followed by relaxation, revision, and retraction. The economic conditions and the corresponding requirements for optimal and stable rules are constantly evolving, suggesting that a different set of rules could be optimal. Despite the risk of future crises, anticipation of future developments and preemption of possible future crises do not play a significant role in the regulatory framework and academic literature. Dynamic elements in financial regulation as a supplemental optimization process for rulemaking could help facilitate rulemaking when it is most needed – ex-ante before crises – to curtail the effects of crises and suboptimal regulatory outcomes – ex-post after crises. By including dynamic elements, the regulatory sine curve of financial regulation could be optimized in relation to the phase-shifted first derivative (cosine curve) that describes common elements of financial crises. Dynamic regulation could help dampen the degree of volatility of both the cosine curve and the regulatory sine curve by creating an anticipatory regulatory response to financial crises.
The Pension System and the Rise of Shareholder Primacy, by Martin Gelter, Fordham University School of Law; European Corporate Governance Institute (ECGI), was recently posted on SSRN. Here is the abstract:
This article explores the influence of the pension system on corporate governance, which has so far received little attention in the corporate law literature. While the shareholder-centric view of corporate governance is strong today, this is a relatively recent development. “Managerial capitalism” began to give way to shareholder capitalism over the past three decades. This Article argues that changes in the pension system, specifically the shift from defined-benefit plans to defined-contribution plans that began in the 1970s, have been a major force pushing the corporate governance system toward shareholder primacy. While in traditional pension plans, workers depended primarily on their employer’s ability to fund pensions, in today’s system retirement benefits strongly depend on capital markets. Shareholder wealth thus became more important for larger segments of society, and pro-shareholder policies became more important relative to pro-labor policies strengthening employees’ position vis-à-vis their employers. Consequently, shareholder primacy became the dominant factor in corporate governance debates. Managers today claim to focus on this objective and are less well positioned to take the interests of their firm’s employees or other groups into account. The political economy of corporate governance underwent a seismic shift. While it is not clear whether shareholders truly benefit from most reforms, these have been largely supported by the center-left given their apparent beneficial effects for shareholders and consequently the middle class. For the same reason, unions have been among the most eager proponents of shareholder activism.
The Collision Between the First Amendment and Securities Fraud, by Wendy Gerwick Couture, University of Idaho College of Law, was recently posted on SSRN. Here is the abstract:
This Article seeks to correct the imbalance that occurs when the First Amendment and securities fraud collide. Under current precedent, securities analysts, credit rating agencies, and financial journalists are subject to differing liability standards; depending on whether they are sued for defamation or for securities fraud. Under New York Times v. Sullivan, 376 U.S. 254, 279-80 (1964), First Amendment protections apply in the defamation context in order to prevent the chilling of valuable speech, yet courts have declined to extend these protections to the securities fraud context. This imbalance threatens to chill valuable speech about public companies. To prevent the dangerous chilling effect of potential securities fraud liability, this Article contends that the New York Times protections should apply equally in securities fraud cases. Therefore, under this Article’s recommendation, a securities fraud claim asserted against a non-commercial speaker for speech concerning a public company cannot prevail absent a showing of actual malice, by clear and convincing evidence, and subject to independent appellate review.
The SEC charged Whittier Trust Company and fund manager Victor Dosti, a South Pasadena, Calif.-based wealth management company and a former fund manager, with insider trading on non-public information about technology companies. The charges are the agency’s latest in its ongoing investigation into expert networks and hedge fund trading.
According to the SEC, Whittier Trust Dosti participated in an insider trading scheme involving the , securities of Dell, Nvidia Corporation, and Wind River Systems. Dosti traded on confidential information that he obtained from Danny Kuo, a Whittier Trust fund manager who Dosti supervised. Kuo was charged by the SEC in January 2012 and is currently cooperating with the investigation.
Whittier Trust and Dosti agreed to pay nearly $1.7 million to settle the charges.
Thursday, June 6, 2013
The SEC obtained an emergency court order to freeze the assets of a trader in Bangkok, Thailand, who made more than $3 million in profits by trading in advance of last week's announcement that Smithfield Foods agreed to a multi-billion dollar acquisition by China-based Shuanghui International Holdings.
According to the SEC, Badin Rungruangnavarat purchased thousands of out-of-the-money Smithfield call options and single-stock futures contracts from May 21 to May 28 in an account at Interactive Brokers LLC. Rungruangnavarat allegedly made these purchases based on material, nonpublic information about the potential acquisition> Among his possible sources is a Facebook friend who is an associate director at an investment bank to a different company that was exploring an acquisition of Smithfield. After profiting from his timely and aggressive trading, Rungruangnavarat sought to withdraw more than $3 million from his account on June 3.
According to the SEC's complaint filed under seal yesterday in U.S. District Court for the Northern District of Illinois, Smithfield publicly announced on May 29 that Shuanghui agreed to acquire the company for $4.7 billion, which would represent the largest-ever acquisition of a U.S. company by a Chinese buyer. Smithfield, which is headquartered in Smithfield, Va., is the world's largest pork producer and processor. Following the announcement, Smithfield stock opened nearly 25 percent higher than the previous day's closing price.
The SEC is warning investors about the potential risks of investing in binary options and has charged a Cyprus-based company with selling them illegally to U.S. investors. Binary options are securities in the form of options contracts whose payout depends on whether the underlying asset - for instance a company's stock - increases or decreases in value. In such an all-or nothing payout structure, investors betting on a stock price increase face two possible outcomes when the contract expires: they either receive a pre-determined amount of money if the value of the asset increased over the fixed period, or no money at all if it decreased.
The SEC alleges that Banc de Binary Ltd. has been offering and selling binary options to investors across the U.S. without first registering the securities as required under the federal securities laws. The company has broadly solicited U.S customers by advertising through YouTube videos, spam e-mails, and other Internet-based advertising. Banc de Binary representatives have communicated with investors directly by phone, e-mail, and instant messenger chats. Banc de Binary also has been acting as a broker when offering and selling these securities, but failed to register with the SEC as a broker as required under U.S. law.
The SEC and the Commodity Futures Trading Commission (CFTC) today issued a joint Investor Alert to warn investors about fraudulent promotional schemes involving binary options and binary options trading platforms. Much of the binary options market operates through Internet-based trading platforms that are not necessarily complying with applicable U.S. regulatory requirements and may be engaging in illegal activity.
Fabrice Tourre, the former VP in the structured products correlation desk at Goldman Sachs, lost his attempt to get the SEC charges against him dismissed based on Morrison v. National Australia Bank. The SEC is suing Tourre, as readers of this Blog surely know, for his role in the infamous ABACUS CDO that Goldman sold to investors. The SEC alleges various misstatements and omissions concerning the role of Paulson & Co., Inc. in structuring the CDO, i.e., Paulson helped to select the assets that would determine the CDO's value and also shorted over $1 billion of those assets through credit default swaps. The narrow question addressed in the court's June 4 opinion is whether the events that took place in the U.S. are sufficient to render any fraud that occurred actionable under SEA section 10(b) or SA section 17(a). Tourre moved for summary judgment on the SEC's 17(a) claims to the extent it alleged fraud in offers made to two specified foreign investors and unspecified domestic investors. The district court denied Tourre's motion for partial summary judgment, holding that, for claims of fraud "in the offer" of securities, SA 17(a) requires that the relevant offer of securities be made in the U.S. The court rejected Tourre's arguments that (1) if the sale is not domestic, neither the sale nor the offer is actionable under Morrison, and (2) an offer is actionable if and only if it is both domestic and ultimately unconsummated.
The district court based its analysis on the plain meaning of SA section 17(a). Because the Dodd-Frank Act effectively reversed Morrison in the context of SEC enforcement actions, the primary holdings of this opinion affect only pre-Dodd-Frank conduct. With respect to Tourre, it means that his trial is still scheduled to commence in about six weeks.
Wednesday, June 5, 2013
The U.S. Department of the Treasury announced that it plans to sell 30 million additional shares of General Motors Company (GM) common stock in an underwritten public offering in conjunction with GM’s inclusion to the S&P 500 index effective as of the close of trading on June 6, 2013. The UAW Retiree Medical Benefits Trust will also participate in the proposed offering by selling 20 million shares, making the total offering size 50 million shares.
In December 2012, GM repurchased 200 million shares of GM common stock from Treasury. At that time, Treasury also announced that it intended to sell its remaining 300 million shares into the market in an orderly fashion and fully exit its GM investment within the next 12-15 months, subject to market conditions. Since then, Treasury has been selling GM shares through its pre-defined written trading plans.
Treasury’s sale of its GM common stock is part of its continuing efforts to wind down the Troubled Asset Relief Program (TARP).
The SEC charged Laidlaw Energy Group, a microcap company whose stock was suspended from trading recently, and its CEO Michael B. Bartoszek, who allegedly profited from selling his shares while investors were unaware of the company’s financial struggles. According to the SEC, Laidlaw Energy Group and its CEO Bartoszek sold more than two billion shares of Laidlaw’s common stock in 35 issuances to three commonly controlled purchasers at deep discounts from the market price. Laidlaw did not register this stock offering with the SEC, and no exemptions from registration were applicable. Bartoszek knew that the purchasers were dumping the shares into the market usually within days or weeks of the purchases to make hundreds of thousands of dollars in profits. Laidlaw’s $1.2 million in proceeds from these transactions was essentially the sole source of funds for the company’s operations during most of its existence. Laidlaw, which is based in New York City, purports to be a developer of facilities that generate electricity from wood biomass.
The SEC alleges that these transactions diluted the value of shares previously purchased by common investors in the market, who were not told about the huge blocks of cheap stock Laidlaw was selling. Investors also were not aware that Laidlaw relied on these transactions to fund its operations entirely. The SEC suspended trading in Laidlaw stock in June 2011.
According to the SEC’s complaint filed in federal court in Manhattan, Bartoszek violated insider trading laws when he personally sold more than 100 million shares of Laidlaw common stock from December 2009 to June 2011, and made more than $318,000 in profits. As a result of the volume of Bartoszek’s sales and the lack of current, publicly available information about the company, these sales also violated the registration requirements of the federal securities laws.
The SEC seeks disgorgement plus prejudgment interest, financial penalties, and injunctive relief, and is seeking penny stock and officer and director bars against Bartoszek.
Tuesday, June 4, 2013
The House Committee on Financial Services will hold a hearing tomorrow June 5 on “Examining the Market Power and Impact of Proxy Advisory Firms.” According to the Committee's memorandum,
This hearing will examine the growing importance of proxy advisory firms in proxy solicitations and corporate governance, including the effect that proxy advisory firms have on corporate governance standards for public companies, the voting policies that proxy advisory firms have adopted, the market power of proxy advisory firms in an industry effectively controlled by two firms, and potential conflicts of interest that may arise when proxy advisory firms provide voting recommendations. This hearing will also examine proposals offered by the Securities and Exchange Commission (SEC) that seek to modernize corporate governance practices in order to improve the communications between public companies and their shareholders.
The Witness List includes
•The Honorable Harvey L. Pitt, Chief Executive Officer, Kalorama Partners, on behalf of the U.S. Chamber of Commerce
•Mr. Timothy J. Bartl, President, Center on Executive Compensation
•Mr. Niels Holch, Executive Director, Shareholder Communications Coalition
•Mr. Michael P. McCauley, Senior Officer, Investment Programs and Governance, Florida State Board of Administration
•Mr., Jeffrey D. Morgan, President and Chief Executive Officer, National Investor Relations Institute
•Ms. Darla Stuckey, Senior Vice President, Society of Corporate Secretaries & Governance Professionals
•Mr. Lynn E. Turner
FINRA fined Wells Fargo and Banc of America a total of $2.15 million and ordered the firms to pay more than $3 million in restitution to customers for losses incurred from unsuitable sales of floating-rate bank loan funds. FINRA ordered Wells Fargo Advisors, LLC, as successor for Wells Fargo Investments, LLC, to pay a fine of $1.25 million and to reimburse approximately $2 million in losses to 239 customers. FINRA ordered Merrill Lynch, Pierce, Fenner & Smith Incorporated, as successor for Banc of America Investment Services, Inc., to pay a fine of $900,000 and to reimburse approximately $1.1 million in losses to 214 customers.
Floating-rate bank loan funds are mutual funds that generally invest in a portfolio of secured senior loans made to entities whose credit quality is rated below investment-grade. The funds are subject to significant credit risks and can also be illiquid.
FINRA found that Wells Fargo and Banc of America brokers recommended concentrated purchases of floating-rate bank loan funds to customers whose risk tolerance, investment objectives, and financial conditions were inconsistent with the risks and features of floating-rate loan funds. The customers were seeking to preserve principal, or had conservative risk tolerances, and brokers made recommendations to purchase floating-rate loan funds without having reasonable grounds to believe that the purchases were suitable for the customers. FINRA also found that the firms failed to train their sales forces regarding the unique risks and characteristics of the funds, and failed to reasonably supervise the sales of floating-rate bank loan funds.
In concluding the settlement, Wells Fargo and Banc of America neither admitted nor denied the charges, but consented to the entry of FINRA's findings.
Monday, June 3, 2013
On May 31, 2013, the SEC charged Robert A. Gist (“Gist”), an Atlanta attorney and former sports agent, and Gist, Kennedy & Associates, Inc. (“Gist Kennedy”), a company that Gist controls, with defrauding at least 32 customers out of at least $5.4 million while acting as an unregistered broker from approximately 2003 to the present.
According to the SEC’s complaint, Gist obtained the customers’ funds on the fraudulent pretense that he would invest conservatively in corporate bonds and other securities. Instead, Gist used the funds for his personal expenses, for the payment of purported dividends and proceeds from securities sales that he falsely claimed to have purchased on behalf of his customers, and for the operation of a company that he controlled until early 2013 known as ENCAP Technologies, LLC. The complaint further alleges that Gist regularly created and provided the customers of Gist Kennedy with fictitious account statements.
Without admitting or denying the SEC’s allegations, Defendants Gist and Gist Kennedy agreed to settle the case against them. The settlement is pending final approval by the court and would require disgorgement of $5.4 million plus prejudgment interest and civil penalties to be determined.
The SEC charged PACCAR, a commercial truck manufacturer, and a subsidiary with various accounting deficiencies that clouded their financial reporting to investors in the midst of the financial crisis. PACCAR and its subsidiary PACCAR Financial Corp. agreed to settle the SEC’s charges.
According to the SEC’s complaint filed in federal court in Seattle, PACCAR is a Fortune 200 company that designs, manufactures, and distributes trucks and related aftermarket parts that are sold worldwide under the Kenworth, Peterbilt, and DAF nameplates. From 2008 through the third quarter of 2012, PACCAR failed to report the results for its parts business as a separate segment from its truck sales as required under Generally Accepted Accounting Principles (GAAP). For example, PACCAR’s 2009 annual report showed $68 million in income before taxes for its truck segment. However, PACCAR documents and board materials reviewed by senior executives depicted the trucks business with a $474 million loss and the parts business with $542 million profit to arrive at the net income before taxes of $68 million. By at least 2008, PACCAR should have been reporting aftermarket parts as a separate segment in its SEC filings, but failed to do so until year-end 2012.
The SEC charged PACCAR with violations of the reporting, books and records and internal control provisions of the federal securities laws, and charges PACCAR Financial Corp. with violations of the books and records and internal control provisions. Without admitting or denying the charges, they agreed to the entry of a permanent injunction and PACCAR agreed to pay a $225,000 penalty. The settlement, which is subject to court approval, takes into account that PACCAR and PACCAR Financial Corp. have implemented a number of remedial measures to enhance their internal accounting controls and improve their compliance with GAAP.
The SEC suspended trading in the securities of 61 empty shell companies that are delinquent in their public filings and seemingly no longer in business, the SEC's second-largest trading suspension. Thinly-traded dormant microcap companies are frequently used by fraudsters in "pump-and-dump" schemes.
Through its Operation Shell Expel initiative, the SEC suspended trading in a record 379 companies in a single day last year.