Friday, February 22, 2013
I have previously discussed David Einhorn's lawsuit against Apple, charging that the company violated federal proxy rules because its proposal to amend the company's certificate of incorporation violated the SEC's unbundling rule. The proposal, if adopted, would amend the certificate of incorporation in several ways. Einhorn objected to one of them, an amendment eliminating the board's power to issue blalnk check preferred stock without shareholder approval, but said he wanted to vote in favor of the others (amendment to implement majority voting for directors, amendment setting a par value for the stock). Today a federal district judge agreed with Einhorn and issued an injunction against the shareholder vote, scheduled for February 27.
Landan consented to the entry of a permanent injunction and agreed to be barred from serving as an officer or director of any public company for five years. Landan will pay $1,252,822 in disgorgement and prejudgment interest, representing the "in-the-money" benefit from his exercise of backdated option grants, and a $1,000,000 civil penalty. Pursuant to Section 304 of the Sarbanes-Oxley Act, Landan will also reimburse Mercury, or the parent company that acquired it after the alleged misconduct (Hewlett-Packard Company), $5,064,678 for cash bonuses and profits from the sale of Mercury stock that he received in 2003. Under the terms of the settlement, Landan's Section 304 reimbursement shall be deemed partially satisfied by his prior return to Mercury of $2,817,500 in vested options.
Smith also consented to a permanent injunction. He will disgorge $451,200, representing the "in-the-money" benefit from his exercise of backdated option grants, and pay a $100,000 civil penalty. Pursuant to Section 304 of the Sarbanes-Oxley Act, Smith will also reimburse Mercury or its parent company $2,814,687 for profits received from the sale of Mercury stock in 2003 and a cash bonus received for 2003. Under the terms of the settlement, all of Smith's disgorgement and all but $250,000 of his Section 304 reimbursement shall be deemed satisfied by his prior repayment to Mercury of $451,200 and his foregoing of his right to exercise vested options with a value of $2,113,487.
Thursday, February 21, 2013
The panel concluded that the amended language used in Schwab's customer agreements to prohibit participation in judicial class actions does violate FINRA rules, but that FINRA may not enforce those rules because they are in conflict with the Federal Arbitration Act (FAA).
In the third cause of action, the panel found that Schwab violated FINRA rules by attempting to limit the powers of FINRA arbitrators to consolidate individual claims in arbitration. The panel further concluded that the FAA does not bar enforcement of FINRA's rules regarding the powers of arbitrators, because the FAA does not dictate how an arbitration forum should be governed and operated, or prohibit the consolidation of individual claims. The panel ordered Schwab to take corrective action, including removing violative language, and imposed a fine of $500,000.
Schwab previously announced that it was removing the language that prohibited consolidation of claims.
Unless the hearing panel's decision is appealed to FINRA's National Adjudicatory Council (NAC) or is called for review by the NAC, the hearing panel's decision becomes final after 45 days.
I certainly hope that the NAC reviews the matter, because I believe that the hearing panel's conclusion that the FAA preempts the FINRA rule is wrong. For my (and co-author Jill Gross's) analysis of the issues presented in this matter, see Investor Protection Meets the Federal Arbitration Act, 1 Stanford J. Complex Litig. 1 (2012), available on SSRN .
It has been widely reported that the SEC has undertaken an investigation into suspicious trading in H.J. Heinz options in advance of the announcement that Berkshire Hathaway would acquire the company. Last week the SEC obtained a freeze order over assets in a trading account. In a court filing the SEC stated that the unknnown trader is a "private wealth client" of Goldman Sachs. Goldman informed the SEC that it did not have direct access to information about the owner of the account, which is based in Zurich.
Tuesday, February 19, 2013
FINRA has fined five affiliates of ING $1.2 million for failing to retain or review millions of emails for periods ranging from two months to more than six years. FINRA also ordered the firms to conduct a comprehensive review of their systems for the capture, retention and review of email, and to subsequently certify that they have established procedures reasonably designed to address and correct the violations.
FINRA found that the firms failed to properly configure hundreds of employee email accounts to ensure that the emails sent to and from those accounts were retained and reviewed at various times between 2004 and 2012. In addition, four of the firms failed to set up systems to retain certain types of emails, such as emails using alternative email addresses, emails sent to distribution lists, emails received as blind carbon copies, encrypted emails and "cloud" email (emails sent through third-party systems). As a result of these failures, emails sent to and from hundreds of employees and associated persons were not retained; and because the emails were not retained, they were not subject to supervisory review.
In addition, four of the firms failed to review millions of emails that the firms' email review software had flagged for supervisory review. At various times between January 2005 and May 2011, nearly six million emails flagged for review went unreviewed by supervisory principals because the email review software was not properly configured.
Monday, February 18, 2013
An interesting, albeit technical, issue under the federal proxy rules will be argued tomorrow in federal district court in Manhattan. David Einhorn and his hedge fund, Greenlight Capital, seek a preliminary injunction to enjoin Apple from counting the votes cast by proxy on an Apple Proposal to amend its certificate of incorporation at its February 27 shareholder meeting. According to plaintiffs, the Apple Proposal #2 violates SEC Rule 14a-4(a)(3) and (b)(1), the "anti-bundling rule," which requires that the proxy "shall identify clearly and impartially each separate matter intended to be acted upon.... "
The Proposal in question would amend the certificate of incorporation in (at least) three ways:
(i) eliminate certain language relating to the term of office of directors in order to facilitate the adoption of majority voting for the election of directors, (ii) eliminate “blank check” preferred stock, (iii) establish a par value for the Company’s common stock of $0.00001 per share and (iv) make other conforming changes...
According to plaintiffs, this is really three separate proposals, and they want to vote against only the amendment eliminating preferred stock. They argue that forcing them to vote up or down on the entire package of amendments is precisely the kind of decision that the SEC unbundling rule is designed to protect them from having to make. This argument does have the advantage of simplicity. In a close case, why not unbundle the proposals to give the shareholders the maximum amount of choice?
Apple, however, counters that the motion for preliminary injunction should be denied since plaintiffs are not likely to succeed on the merits: the proposal is a single proposal to amend the certificate of incorporation and does not bundle material matters (i.e., these are technical amendments). Apple asserts that the proposal does not put the plaintiffs to an unfair choice since all the amendments are pro-shareholder and supported by corporate governance advocates like CALPERS (whose application to file an amicus brief was denied by the court as unnecessary). Apple also asserts that many corporations have asked their shareholders to vote on single proposals to amend the certificate in several different respects, without objection by the SEC or shareholders. Finally, Apple argues that the motion for a preliminary injunction should be denied because, in any event, the plaintiffs have not made a clear showing that they would suffer immediate and irreparable harm if the shareholder vote goes forward; if the Proposal is adopted by the shareholders and a court ultimately finds that it violated SEC rules, the Proposal could easily be undone (in contrast to a vote on a merger, which would be infeasible to unwind).
According to Apple, Einhorn and Greenlight are using this litigation to pressure Apple into acceding to their demand for the creation of a high-yield preferred stock to unlock shareholder value. Apple is certainly right about the plaintiffs' motivation. Nevertheless, the question for the court is whether the voting decisions of Apple shareholders are likely to be distorted by the Proposal, which forces them to make a unitary decision, up or down, about several amendments to the certificate of incorporation on different matters. To this securities professor at least, it raises a nice question about what "each separate matter" means.
Sunday, February 17, 2013
Takeover Litigation in 2012, by Matthew D. Cain, University of Notre Dame - Department of Finance, and Steven M. Davidoff, Ohio State University (OSU) - Michael E. Moritz College of Law; Ohio State University (OSU) - Department of Finance, was recently posted on SSRN. Here is the abstract:
Takeover litigation continues to be a much discussed issue in Delaware and among the corporate bar. This report provides preliminary statistics for takeover litigation in 2012. Based on preliminary statistics, takeover litigation continued to be brought at a high rate in 2012. 92% of all transactions experienced litigation. Similar to last year, half of all transactions experienced multi-jurisdictional litigation with the average transaction attracting 5 lawsuits. Median attorneys’ fees for settlements inched slightly higher to $595 thousand per settlement while the average attorneys’ fee declined substantially reflecting a fewer number of large settlements in 2012. Further information and numbers are contained in the report.
Dampening Financial Regulatory Cycles, by Brett McDonnell, University of Minnesota Law School, was recently posted on SSRN. Here is the abstract:
Financial regulation should be countercyclical, strengthening during speculative booms to contain excessive leverage and loosening following crises so as to not limit credit extension in hard times. And yet, financial regulation in fact tends to be procyclical, strengthening following crises and loosening during booms. This paper considers competing descriptive and normative analyses of that procyclical tendency. All of the models and arguments considered are rooted in a public choice perspective on financial regulation, i.e. rational choice ideas drawn from economics and applied to politics, but with that perspective modified to take account of behavioralist biases in rationality, particularly the availability bias. That bias helps explain the procyclical tendency in financial regulation, as both the public and regulators ignore the threat of financial crises during boom times and become very focused on that threat when crises actually occur. The normal dominance of concentrated interest groups temporarily shifts as public attention turns to financial regulation following a crisis.
The models considered here, though differ greatly in their normative conclusions, with some mainly criticizing the deregulation which occurs during booms, others mainly criticizing the regulation which occurs following crises, and yet others critical of the timing of both. The models differ in how they understand the balance of interest groups outside of crises and how likely that balance is to lead to outcomes that reflect the public interest, in how well they think the crisis-related public attention can be channeled to reflect the public interest, and in how they analyze the underlying vulnerability of financial institutions and markets and the intellectual difficulty of regulation. After analyzing these differing models, the paper considers historical evidence to try to choose among them, and then considers various administrative mechanisms which might help dampen the procyclical tendencies of financial regulation. Some of the procedures considered include bicameralism and the committee system in Congress, notice-and-comment rulemaking, hard look judicial review, independent agencies, sunset clauses, mandated agency studies, regulatory “contrarians,” and automatic triggers for various rules
Lawyers and Fools: Lawyer-Directors in Public Corporations, by Lubomir P. Litov, University of Arizona - Department of Finance; University of Pennsylvania - Wharton Financial Institutions Center; Simone M. Sepe, University of Arizona - James E. Rogers College of Law; and Charles K. Whitehead, Cornell Law School, was recently posted on SSRN. Here is the abstract:
The accepted wisdom — that a lawyer who becomes a corporate director has a fool for a client — is outdated. The benefits of lawyer-directors in today’s world significantly outweigh the costs. Beyond monitoring, they help manage litigation and regulation, as well as structure compensation to align CEO and shareholder interests. The results have been an average 9.5 percent increase in firm value and an almost doubling in the percentage of public companies with lawyer-directors.
This Article is the first to analyze the rise of lawyer-directors. It makes a variety of other empirical contributions, each of which is statistically significant and large in magnitude. First, it explains why the number of lawyer-directors has increased. Among other reasons, businesses subject to greater litigation and regulation, and firms with significant intangible assets (such as patents) value a lawyer-director’s expertise. Second, this Article describes the impact of lawyer-directors on corporate monitoring. Among other results, it shows that lawyer-directors are more likely to favor a board structure and takeover defenses that reduce shareholder value — balanced, however, by the benefits of lawyer-directors, such as the valuable advice they can provide. Finally, this Article analyzes the significant reduction in risk-taking and the increase in firm value that results from having a lawyer on the board.
Our findings fly in the face of requirements that focus on director independence. Our results show that board composition — and the training, skills, and experience that directors bring to managing a business — can be as or more valuable to the firm and its shareholders.