Lawyers for startups typically serve as counsel to the new organization, with all of the complications that accompany representing an entity. But consider those lawyers as they perform legal work for the enterprise before any organization exists. Who are their clients?
Startup founders tend to be individuals. Sometimes, the startup founders create an entity—an LLC, a subchapter S corporation, a subchapter C corporation, or some other structure—on their own, without seeing a lawyer. In those instances, the eventual lawyer works with the “duly authorized representatives” of the established company, with the entity as the client. But just as often, the … Read more
Until very recently, it was not controversial to claim that shareholder litigation had entered a period of crisis. A significant majority of deals involving publicly-traded corporations (most of which are organized in Delaware) were challenged in litigation, and to make matters worse, much of that litigation was multi-jurisdictional. In large part, this resulted from the ability of plaintiffs’ firms to secure fee awards in connection with settlements that included no monetary relief. In a typical “disclosure only settlement,” defendants agreed to provide additional, deal-related disclosures in exchange for a very broad release. With the cooperation of released defendants, plaintiffs’ counsel … Read more
As discussed in prior posts on the Cleary M&A and Corporate Governance Watch blog, recent applications of the Delaware Supreme Court’s decision in Corwin v. KKR Financial Holdings, 125 A.3d 304 (Del. 2015) have emphasized the high bar for surviving a motion to dismiss in damages actions by stockholder plaintiffs after completion of a merger transaction, as “dismissal is typically the result” where informed, disinterested stockholder approval requires application of the business judgment rule to extinguish all claims except for waste. See Singh v. Attenborough, 137 A.3d 151, 152 (Del. 2016). Two recent Chancery Court decisions have … Read more
Good morning and thank you for that very kind introduction. It’s a pleasure to speak with you all today. Before I start, I must give our standard disclaimer that the views I express today are my own and do not necessarily reflect the views of the Commission or its staff.
This morning, I want to discuss our enforcement work in the area of auditing, a topic that is sure to be of interest to all of you. There is no doubt that the work of auditors, who function as critical gatekeepers in the area of issuer reporting and disclosure, … Read more
On September 19, 2016, U.S. District Judge Alison J. Nathan of the Southern District of New York denied defendant Anthony R. Murgio’s motion to dismiss charges brought against him for, among other things, operating a Bitcoin exchange in violation of federal and state money transmitting laws. The decision adds to a growing body of federal precedent upholding the application of money transmitting laws to Bitcoin exchange businesses.
The indictment against Murgio specifically alleges that the Bitcoin exchange he allegedly ran — Coin.mx — was an “unlicensed money transmitting business” in violation of 18 U.S.C. § 1960 (Section 1960). Section … Read more
In mergers and acquisitions transactions with privately-held target companies, transacting parties will often agree to make payments to the target shareholders contingent upon some post-closing events. One frequently used mechanism is an earnout. With an earnout, the parties will agree upon post-closing performance targets, using measures such as earnings, net income, or gross revenue, and the additional amount of consideration that the target shareholders are entitled to receive will depend on whether such performance targets are met over the earnout period, which typically lasts from one to five years after closing. For example, after paying $10 million at closing, an … Read more
Registrants, particularly those involved in highly regulated industries, frequently must determine whether and when a government investigation and related pending or threatened litigation must be disclosed in its periodic reports filed with the Securities and Exchange Commission (“SEC”). On September 9, 2016, the SEC filed a complaint against a company and its general counsel that should serve as a reminder for any registrant subject to a government investigation to ensure that it has robust procedures in place to review disclosure requirements in connection with government investigations in light of the facts uncovered by any internal investigation and the course of … Read more
The avalanche of accounting scandals in the late 1990s and early 2000s triggered major changes in the corporate accounting world. The Sarbanes-Oxley Act of 2002 (SOX) stampeded in, promising tightened audit regulation aimed at easing the minds of frightened market participants. Given heightened concern over excessively “chummy” relationships between corporate management and its auditors, one rule set forth in SOX requires more frequent client rotation of audit partners (every five years rather than seven) and greater time required before partners may return to the same client (five years rather than two).
While there is little doubt that this rule was … Read more
On September 13, 2016, the New York State Department of Financial Services (DFS) proposed a broad set of cybersecurity regulations for banks, insurers, and other financial institutions. The proposal is largely consistent with existing guidance (e.g., under the NIST Cybersecurity Framework or the FFIEC IT Handbook), but it goes further in some ways.
The proposed rule is the result of DFS’ focus on cybersecurity over the past several years, in which DFS conducted three industry surveys, held cybersecurity discussions with various financial institutions, and issued a letter to US regulators asking for feedback on potential cyber-specific requirements.… Read more
As the saying goes, “You only get one chance to make a first impression.” The importance of making a good first impression with your employer is well established in conventional wisdom. But what about second and third impressions? In our recent paper, “Do first impressions last? The impact of initial assessments and subsequent performance on promotion decisions,” available here, we examine how readily employers revise their initial opinion about a worker’s quality and potential after observing actual on-the-job performance. We find that managers continue to make promotion decisions in part based on assessments that were made as … Read more
In recent years, activist investors and the companies they target have attracted considerable attention—in the press, in the business and legal communities, in the political arena, and in academia. The fundamental question under debate is whether activist interventions create or destroy firm value. We have conducted a study of the issue, available here. Our sample includes thousands of activist campaigns conducted over the two decades from 1994 to 2014. We examine five types of evidence: stock market reactions, analyst recommendations, short sales, financial statement fundamentals, and institutional ownership.
We find the initial market reaction to the announcement of an … Read more
Designing a regulatory framework that ensures the safety of users and the public while facilitating the commercial use and consumer enjoyment of disruptive innovation is a challenging undertaking. This is particularly true in contemporary settings, where innovation is quicker and the global dissemination of that technology is much faster. The so-called “pacing problem” between innovation and regulation suggests that innovation driven by science and technology is accelerating, yet, simultaneously, federal and state agencies’ regulatory processes have slowed down as I discuss here. Given the intensifying pacing problem between regulation and innovation, regulators often struggle to keep up. The last … Read more
An emerging best practice of granting general counsel greater organizational prominence can create risks and benefits for corporate governance The general counsel’s ability to serve as a business partner of management helps establish the credibility essential to the successful performance of her roles as legal advisor and guardian of the corporation’s reputation. Yet this valuable business partnership can have the unintended consequence of weakening the attorney-client privilege that generally cloaks the general counsel’s advice to management.
The model of the organizationally prominent general counsel is rooted in the post-Sarbanes-Oxley era’s emphasis on corporate responsibility. Important policy monographs from the American … Read more
On August 30, 2016, the U.S. Securities and Exchange Commission (“SEC” or the “Commission”) reaffirmed its commitment to its whistleblower program by issuing the second largest award in its five-year history. While admittedly less dramatic than this $22 million payment, however, the Commission’s recent enforcement activity is similarly compelling evidence of the value that the agency places on its whistleblower program.
Specifically, on August 10 and August 16, 2016, the Commission announced settlements with two companies based on language in employee severance agreements that discouraged employees from reporting possible securities law violations to the SEC, including by restricting the employees’ … Read more
According to a recent survey of over 1,500 chief executive officers, creativity is the single most important leadership skill needed for enterprises to navigate today’s complex global business environment. This is not surprising; innovative company culture has many benefits. However, research in psychology and organizational behavior suggests that a strongly innovation-focused culture could have unintended negative consequences. For example, past studies have found that innovative thought can lead to more dishonesty and risk-taking.,
These downsides of creative culture could develop in many parts of the company. However, the greatest opportunity for self-interested behavior may exist when … Read more
On September 13, 2016, the New York Department of Financial Services (“DFS” or the “Department”) issued proposed regulations (the “Proposed Regulations”) designed to guard against the onslaught of cyber-attacks faced by banks, insurance companies and other financial services providers. Billed by Governor Andrew Cuomo as a means to assure that regulated banks and insurance companies “protect consumers and ensure that [their] systems are sufficiently constructed to prevent cyber-attacks to the fullest extent possible,” the Proposed Regulations provide a baseline with respect to companies’ cybersecurity practices regardless of the size, nature or complexity of the business. Though they mirror … Read more
Europe (and much of the rest of the world) have long been skeptical of American-style opt-out class actions in which the plaintiff’s attorney defines the scope of the class. Similarly, they have prohibited the contingent fee, discouraged punitive damages, insisted on “loser pays” fee shifting, and required opt-in classes to be led by a public agency or an approved not-for-profit body. All this should seemingly preclude the spread of “entrepreneurial litigation” to Europe or elsewhere. But it hasn’t!
Major securities class actions for record or near record amounts have recently settled in the Netherlands and Japan, and an even … Read more
The World Economic Forum threw a knockout punch last month when it released its report, “The Future of Infrastructure: An Ambitious Look at How Blockchain Can Reshape Financial Services.” When Giancarlo Bruno, the World Economic Forum’s Head of Financial Services Industries, stated powerfully and unequivocally, “Rather than to stay at the margins of the finance industry, blockchain will become the beating heart of it,” the world felt the impact.
Like so many other things that we know are important to do, but which we may struggle to find the time for, reading the roughly 130-page World … Read more
From a legal perspective, nothing has changed following the Brexit Referendum. The UK remains a member of the EU and applicable EU law remains in force. Although the outcome of the Referendum is not legally binding on the UK government1 (it is merely advisory), it appears highly unlikely that the UK Parliament will ignore the decision of the electorate. Consequently, this note sets out some of the potential legal implications which may affect businesses upon Brexit2.
There were various immediate economic consequences following the Referendum, including an initial fall in sterling and a decline in the stock market, but the … Read more
Security prices contain information. Private information is reflected in prices through trading. Public information is generally believed to be incorporated in prices before anyone can trade on it. In a recent study, we examine whether some traders are able to make profitable trades by using public information. Specifically, we analyze futures returns and trading activity around releases of the Weekly Natural Gas Storage Report. This report is issued by the U.S Energy Information Administration (EIA) and contains information about U.S. inventory of natural gas. It is widely followed by traders because its release often triggers large price moves. The … Read more
On August 25, 2016, the Securities and Exchange Commission (the “SEC”) adopted amendments to Form ADV to modernize and enhance information reported by investment advisers (the “Amendments” or the “Form ADV Amendments”). Among other changes, advisers will be required to use a new Schedule R for each relying adviser when using umbrella registration for multiple entities in a single advisory business and will be required to provide additional information about separately managed accounts. The adopting release also amends Rule 204-2 (the “Books and Records Rule”) under the Investment Advisers Act of … Read more
The time value of money, measured by the interest rate at which an entity can borrow or invest, plays an incredibly important role in income tax. Every tax teacher emphasizes the value of deferral to taxpayers, explaining that paying a dollar of tax 10 years in the future is worth much less than paying a dollar of tax today, because the taxpayer can invest less than a dollar today, earn interest for 10 years, and then pay the tax obligation.
But, as I explain in my recent short article, “How to Think About and Teach Income Tax When Interest Rates … Read more
On September 8, the Federal Reserve, OCC and FDIC issued the long-expected report to Congress and the FSOC, as required under section 620 of the Dodd-Frank Act, regarding activities and investments of banks and their nonbank affiliates, which were defined collectively in the report as “banking entities” (the “620 Report”). In addition to a comprehensive review and discussion of currently-permissible activities and investments of banking entities, that 107-page document includes a discussion by each agency of associated risks, applicable risk mitigation activities and legal limitations, and specific recommendations. Below are our initial takeaways from the 620 Report. We will circulate … Read more
The practice of allowing shareholders to cast non-binding say-on-pay votes has spread quickly and broadly throughout the world. It seemed that investors would finally get the opportunity to express their dissatisfaction with outrageous or ill-conceived compensation packages.
The practice was, at first, voluntary, with companies having the option of submitting their compensation policies to a vote. As the number of volunteers remained small, though, investors submitted proposals for requiring companies to carry out the non-binding votes.
In some jurisdictions like the United States, non-binding say-on-pay votes were made mandatory. In Canada, say-on-pay votes are not required, but 80 percent of … Read more
In their recent article, Jeff Schwartz and Alexandra Nelson critique the Securities and Exchange Commission’s cost-benefit analysis accompanying the Conflict Minerals Rule. This rule requires public companies using conflict minerals in their production to annually disclose whether the minerals come from certain war-torn areas such as the Democratic Republic of Congo. Schwartz and Nelson contend that the SEC’s estimate of $3-4 billion in compliance costs was grossly overstated due to numerous flaws. They point to early evidence estimating actual compliance costs at $710 million to support their criticism. The article also chastises the SEC for failing to quantify expected … Read more
In June 2014, the Supreme Court issued its second decision in the Halliburton securities fraud litigation.[i] Halliburton II reaffirmed the court’s prior decision in Basic Inc. v. Levinson,[ii] which provided plaintiffs in federal securities fraud litigation with a presumption of reliance based on the fraud on the market theory. Halliburton II also heightened the importance for both plaintiffs and defendants of using event studies at the class certification stage in order to address price impact. Price impact concerns whether allegedly fraudulent statements significantly affected market price. Event studies had already become a critical litigation tool for establishing … Read more
The European Securities and Markets Authority (“ESMA”) published on July 19, 2016 its final advice to the European Commission (the “Commission”) on the extension of the marketing passport under the Alternative Investment Fund Managers Directive (“AIFMD”)1 to twelve non-EEA2 countries, including the United States. This note is intended to highlight ESMA’s advice to the Commission and set out the steps firms would need to consider when applying for a third country passport.
The AIFMD envisages the granting of a marketing passport to third country alternative investment fund managers, which are managers established outside the EEA. Any manager that meets the … Read more
The system for resolving domain-name disputes is unique in that it gives the complainant the unilateral ability to choose the arbitration provider. As a result, providers, whether motivated by profit or prestige, have incentives to favor the complainant, a trademark owner who claims that a domain name violates its mark. The domain name-dispute resolution system should be reformed to allow both complainant (trademark owner) and respondent (domain-name registrant) to strike an equal number of arbitration providers. This reform would give providers an incentive to be unbiased.
The dynamics of the domain-name dispute-resolution system provide an example of forum selling. The … Read more
Courts handling shareholder class actions and other types of securities litigation have expressed different views about how often stocks should respond to material news. Despite the importance of this issue in determining whether shares trade in an efficient market, these views are not attributed to any empirical evidence. My new study, available here, examines how often companies in the S&P 500 Index exhibit a statistically significant response to earnings announcements, documenting that the typical company has a statistically significant response on either the day of or the day following the earnings announcement only about 50 percent of the time. Thus, … Read more
On May 17, 2016, the Securities and Exchange Commission issued new Compliance and Disclosure Interpretations (“C&DIs”) on the use of non-GAAP financial measures. With a fiscal reporting period having passed since the SEC issued the C&DIs, we surveyed the impact that the C&DIs had on company disclosure practices and related developments. Our survey sample included 100 earnings releases issued by Fortune 500 companies since May 17 that included a presentation of two or more non-GAAP financial measures and guidance on at least one non-GAAP measure (the “Survey”). Unsurprisingly, given the nature of the C&DIs, a significant … Read more
Valuation, solvency, and adequate capitalization analyses play a crucial role in the process of reorganizing U.S. companies in bankruptcy. They are central to allowance of claims, adequate protection, avoidance actions such as fraudulent transfer and preference, rejection of collective bargaining agreements, plan confirmation, and 363 sales. Solvency opinions may also be sought prospectively in anticipation of transactions such as leveraged buyouts, spin-offs, or dividend recapitalizations.
Courts and bankruptcy professionals have often complained about the expense, delay, subjectivity, and unpredictability inherent in traditional approaches to valuation. Financial analyses can consume tens of millions … Read more
In State of Florida v. Espinoza, a trial court in Miami recently dismissed all charges against an individual Bitcoin exchanger, who was arrested in a sting operation after agreeing to sell bitcoins to an undercover detective who purported to need them to buy stolen credit cards.1 The court’s decision, which is now being appealed by the prosecution, includes several notable holdings. In dismissing charges that the defendant had operated a money transmitting business without a license, the court held that bitcoins are not “money,” that selling bitcoins is not money “transmitting,” and that selling bitcoins without charging transaction fees … Read more
Much recent work in finance and economics aims to understand the role that chief executive officers and other top managers play in the firms they run. Traditional theories about firm decisions on matters such as capital structure or investments don’t consider the role of CEOs or they assume that rational managers will behave identically if faced with the same problem. However, the more recent literature suggests that CEOs behave in very different ways that matter to the firms that they run. Several papers have shown substantial changes in a firm’s stock price and accounting performance when its top management changes. … Read more
In Larkin v. Shah, issued on August 25, the Delaware Court of Chancery dismissed a stockholder challenge to a merger due to the cleansing effect of fully informed stockholder approval, applying the Delaware Supreme Court’s recent Corwin v. KKR Financial Holdings LLC decision (which held that fully informed and uncoerced stockholder approval of a merger not subject to entire fairness review invokes the business judgment rule rather than heightened scrutiny under Revlon). The Larkin opinion confirms that, other than with respect to transactions to which entire fairness applies ab initio (i.e., transactions involving a conflicted controlling stockholder or group), … Read more
Diversity in corporate boards is a hot topic. We contribute to the debate on the role of diversity by empirically documenting that greater national cultural diversity in corporate boards leads to lower performance at UK firms accounting for more than 95 percent of the market value of London Stock Exchange-listed companies. The negative impact is economically significant, with a reduction in return on equity of 1.43 percent for firms with higher levels of cultural diversity (those at or above the 75th percentile) versus firms with lower levels of cultural diversity (those at or below the 25th percentile). Why … Read more
The role that investors play in replacing chief executive officers of startup companies has been the subject of heated debate in the investing community, and it remains controversial whether investors in startups do better by replacing incumbent CEOs. Our recent working paper, available here, provides for the first time causal evidence showing that the likelihood of startup-CEO replacement rises as more prominent investors participate in financing. Our paper also demonstrates that successor CEOs are drawn disproportionately from a particular talent pool – outsiders with prior startup-CEO experience – and, critically, that prominent-investor led CEO replacements produce large and robust startup … Read more
Most of the lawsuits against Argentina in the New York courts ended in the Spring of 2016 through cash settlements with the major litigants. The market is still digesting the lessons from this 15 years of bitter litigation. That assessment may eventually conclude that
- playing the part of a death-grip holdout in a sovereign debt restructuring will probably pay off handsomely,
- obtaining a court injunction (a so-called pari passu injunction) preventing the sovereign borrower from paying its other external debt without making a “ratable” payment to holdouts is an essential element to a winning holdout strategy, and
- creditors prepared
… Read more
A good deal of current American political commentary centers on disputes about whether the American economy has truly recovered from the slump of 2008. Our political candidates offer different narratives about the causes of the slump as well as about how to promote societal flourishing going forward. What should an ordinary citizen make of these sharply divergent narratives? Despite this divergence, both narratives use the same rhetorical imagery of politicians as mechanics, economies as machines, and economic theory as providing tools for the mechanics.
This image has been reinforced by a century of economic theory that treats an economy as … Read more
Financial reform has driven many changes in American governance, but the most dramatic one may prove to be the government’s cautious, but wide-ranging, embrace of a revised global regime to regulate international finance. That reform has moved the equilibrium of the separation of powers in foreign affairs towards Congress and uses the informal way that financial regulatory standards spread across the globe to do the work that customary international law used to do.
Both of these developments derive from the way that international financial cooperation has evolved. The agencies charged with implementing Dodd-Frank have embraced “soft law” in their international … Read more
The Sarbanes-Oxley Act (SOX) was enacted by the U.S. Congress in 2002 in the aftermath of a series of corporate scandals. It aims to strengthen investor protection by promoting better corporate governance and auditor independence. In particular, Sections 302 and 404 require top management to assess and certify the effectiveness of internal controls over financial reporting and an external auditor to attest to the validity of management’s assessment. Firms that cannot do so must disclose the existence and nature of their internal control weaknesses (ICWs). While a number of academic studies have documented associations between ICWs and suboptimal corporate behaviors … Read more
Individual investors are active participants in the shareholder resolution process. According to Proxy Monitor, shareholder proposals sponsored by individual investors represent approximately one-quarter of the total number of shareholder resolutions voted on each year. During the 10-year period 2006-2015, individual investors brought forth over 1,100 resolutions at Fortune 500 companies. These resolutions span a vast array of topics, including proposed changes to board structure, executive compensation, shareholder rights, and corporate social policy (see Figure 1). 
Figure 1: Individual Shareholder Resolutions, per Company (2006-2015)
Individual activism is a controversial topic. Critics contend that the large number of proposals filed … Read more
On April, 27 2016, the European Council and Parliament finally adopted a new data protection law: the General Data Protection Regulation (GDPR). The following is a summary of key issues and a checklist of initial tasks to help you prepare for the new regulation.
When Will the GDPR Take Effect?
It will apply directly in all EU Member States from May 25, 2018. It will repeal and replace Directive 95/46EC and its Member State implementing legislation.
Expanded Territorial Scope
The GDPR rules (like the Directive) will apply to both controllers and processors in the EU.
The GDPR will also apply … Read more
On August 15, the Financial Industry Regulatory Authority (FINRA) issued a regulatory notice adopting a requirement that U.S. registered broker-dealers collect margin on To-Be-Announced (TBA) transactions (FINRA Rule 4210). FINRA’s action follows the Securities and Exchange Commission’s approval of FINRA’s earlier proposal which was amended several times.
TBA transactions serve as a significant funding and hedging vehicle for consumer mortgage originations and provide liquidity in the secondary market for mortgage loans. These products have over $184 billion in average daily trading volume, second only to U.S. Treasuries, and have historically not been subject to margin requirements. The Rule … Read more
The 2010 Dodd-Frank Act provided shareholders of U.S. public corporations the right to vote on chief executive officers’ compensation, at least every three years. The so–called say on pay vote is advisory but was designed to curb overly generous executive pay packages.
Since 2011, the financial press, consultants and academic scholars have considered how shareholders make use of this right. According to the latest results of Semler Brossy, 93 percent of the Russell 3000 companies received say on pay support of more than 70% in 2016, and the failure rate dropped to 1.7 percent, the lowest level since … Read more
Family does matter in the United States. Census data indicate that more than 20 percent of men have worked for the same employers as their fathers, while a recent New York Times article suggests that the sons of senators have a 8,500 times higher chance of becoming senators than the average American male. A large body of empirical research in economics and finance has been devoted to the study of family firms and their role in the economy. Yet little is known about the implications of widespread family ties outside family-owned firms.
In an attempt to measure how widespread family … Read more
On July 28, 2016, the Consumer Financial Protection Bureau (“CFPB” or “Bureau”) issued its outline of proposals under consideration for the regulation of debt collection. This 117-page release, entitled “Small Business Review Panel for Debt Collector and Debt Buyer Rulemaking: Outline of Proposals Under Consideration and Alternatives Considered” (“Outline”), was announced in connection with the CFPB’s field hearing on debt collection in Sacramento, California (“Field Hearing”). The Outline is in preparation for the convening of a Small Business Regulatory Enforcement Fairness Act Panel (“SBREFA Panel”), a process mandated by the Dodd-Frank Act for CFPB rules anticipated to have a significant … Read more
The positive correlation between oil prices and equity markets over the past few years has been discussed extensively in the media as well as by prominent economists, such as Bernanke and Obstfeld, and has brought into question the generally accepted view that lower oil prices are good for the U.S. and the global economy. However, in a recent study, we illustrate that there has been no stable relationship between real oil prices and equity returns over the last 71 years. Nevertheless, we argue that, as in previous episodes of falling oil prices, lower oil prices improve profit opportunities … Read more
When should changes in markets for financial securities drive changes in law? In my forthcoming essay, available here, I argue that a normative framework for making that examination would increase transparency and legitimacy. It would also help counter the tendency of politics to distort legal responses to market changes. During economic prosperity, for example, the political push for deregulation can leave financial markets under-protected. But when the bubble of prosperity inevitably bursts, the political push for regulation can lead to over-protective laws.
The essay argues that the extent to which financial market changes should drive legal changes should depend on … Read more
On July 28, in conjunction with a field hearing on debt collection, the Consumer Financial Protection Bureau (“CFPB” or the “Bureau”) released an outline of proposals under consideration to regulate the debt collection industry (the “Outline”). Released as part of the required consultation with a cross section of small entities likely to be affected by the regulation pursuant to the Small Business Regulatory Enforcement Fairness Act (the “SBREFA”), the Outline contains broad proposals to cover the debt collection activities of third-party collection agencies, debt buyers, collection law firms and loan servicers. The CFPB has indicated that it will convene … Read more