Securities Law Prof Blog

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

Tuesday, August 25, 2009

Judge Asks for More Explanation for SEC-BofA Settlement

Judge Rakoff still isn't satisfied with the explanations given to him by the SEC and the Bank of America about the settlement involving the disclosure (or lack thereof) of Merrill bonuses in the BofA proxy statement.  He instructed the SEC to provide more explanation about why it didn't follow SEC policy and seek penalties from individual defendants.  He also didn't accept the agency's explanation that its hands were tied because the corporation asserted reliance on advice of counsel as a defense and would not waive the attorney client privilege and give the SEC the documents.  How could the corporation base a defense on attorneys' advice without disclosing the advice?  The judge asked for further submissions due Sept. 9.  WSJ, SEC Ordered to Explain Handling of BofA Case.

The standard for judicial review for negotiated settlements, in case you're wondering, is that the judge should give deference to the agency and approve the settlement so long as it is reasonable and in the public interest.

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A question on attorney-client privilege.

It appears that a primae facie case can be made: (1) that the officers and directors of Bank of America had a fiduciary duty to the shareholders, which includes the duty to disclose all material facts; (2) that the $5.8 billion in bonuses was a material fact which was not disclosed - except by a general statement that bonuses would be paid; (3) that the bonuses BOA agreed to have paid by Merrill were non-discretionary was also a material fact, and that the assertion in the proxy statement that non-discretionary bonuses would be paid was therefore misleading; (4) a breach of the D & O fiduciary duties therefore occurred.

QUESTION: Under fiduciary law, generally, once a fiduciary duty has been demonstrated, does not the burden of proof shift to the fiduciary to demonstrate that the process followed (procedural aspects of the duty of care), and judgment exercised (substantive aspects of the duty of care), was in compliance with the fiduciary duty? The business judgment rule does not seem to apply, given that there has been an allegation of conduct that the directors violated their duty of care - i.e., this is not a case involving conflicts of interest.

Hence, would not the officers and directors possess the BURDEN OF PROOF to demonstrate that their conduct was appropriate. And, hence, that their reliance upon the opinion of corporate counsel / outside counsel was reasonable. In such instance, as the Judge surmised, attorney-client privilege is not an impediment to uncovering the advice which was provided by the attorneys. Such privilege MUST be waived if the officers and directors are to provide evidence of adherence to their fiduciary duty of due care - i.e., that they received advice, the substance of that advice, and that such advice was not patently unreasonable.

If, as I suspect, the advice of corporate or outside counsel was that disclosure of the size of the bonus, or the fact that some of the bonus payments were non-discretionary, was at best a "gray area" - and hence officers and directors had to proceed with caution, then certainly further action by the SEC against the officers and directors, individually, is warranted. As the Judge stated, the shareholders of BOA (who were already harmed by the non-disclosure and/or misleading disclosure) should not be subjected to the burden of the fine - it is the officers and directors' conduct which is at issue.

Moreover, if the officers and directors don't waive attorney-client privilege, thereby preventing themselves from mounting their own defense - which is their BURDEN - then would not the SEC be empowered to impose fines, anyway?

Thinking more broadly, the SEC continues to take positions which seem to refuse to apply, or seek to enforce, the broad fiduciary duties of officers, directors, investment advisers, and investment company boards. When will the SEC realize just how powerful the application of fiduciary duties is as a protector of the public interest? Will the SEC ever seek to apply fiduciary duties correctly, and seek to enforce them correctly?

Posted by: Ron Rhoades | Aug 26, 2009 2:47:01 PM

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