The recent controversy over President Donald Trump’s use of his emergency authority to fund a wall on the U.S. southern border has awakened many Americans to the problem of executive overreach. Yet, what few may appreciate is that executive overreach can cause trouble in contexts far beyond immigration or border security. For example, consider U.S. securities regulation. Executive overreach was a major factor in creating confusion in the current U.S. laws against insider trading, and some reformers propose using new executive actions to correct the problem.
A recent op-ed by an SEC commissioner and a former U.S. attorney calls for … Read more
On March 6, 2019, Commodity Futures Trading Commission (“CFTC”) Director of Enforcement James McDonald announced an initiative to pursue foreign corrupt practices that constitute violations of the Commodities Exchange Act (“CEA”), noting that the Enforcement Division already has open investigations involving such conduct. The same day, the Enforcement Division issued an Advisory encouraging companies and individuals not registered, nor required to be registered, with the CFTC (“non-registrants”) who are nonetheless subject to the CFTC’s enforcement power to voluntarily disclose foreign corrupt practices by establishing a presumption of no civil monetary penalty where the disclosure is followed by full cooperation and … Read more
Regulators and policymakers have asserted that the public was “blindsided” by the “perfect storm” that caused the 2007-2009 global financial crisis (GFC, e.g., Financial Crisis Inquiry Commission [FCIC] 2011; Appelbaum 2015). Academic research has similarly found that market participants, including bank CEOs, generally did not recognize the severity of the crisis or respond effectively (e.g., Fahlenbrach and Stulz 2011; Desai, Rajgopal, and Yu 2016). As the FCIC concluded, “[the] greatest tragedy would be to accept the refrain that no one could have seen [the GFC] coming…If we accept this notion, it will happen again” (2011). These concerns are particularly salient … Read more
Traditionally, securities fraud has been civilly enforced under Section 10(b) of the Exchange Act and Rule 10b-5 promulgated thereunder, and criminally prosecuted under Section 32 of the Exchange Act. Recently, however, the SEC has increasingly asserted claims under Section 17(a)(2) of the Securities Act for conduct that sounds in securities fraud. Moreover, because violations of Section 17 are criminalized under Section 24 of the Securities Act, an increasing number of securities fraud prosecutions may be pursued under Section 17(a)(2). Yet, unlike the elements of securities fraud under Rule 10b-5, many of the elements of Section 17(a)(2) violations remain unsettled, and … Read more
Today, I will talk about the proxy process. But, before I segue into any substance, this is a good time for me to provide my first standard disclaimer: My views and remarks are my own, and do not necessarily represent those of the SEC or other Commissioners.
Last year, Chairman Jay Clayton announced that the Commission would review the existing SEC rules that govern the proxy system. The staff held a roundtable that raised many issues in this area and invited public comment prior to and following the event. Recently, the Chairman asked me to take the … Read more
In a recent paper, we focus on the expected agency problems in equity crowdfunding markets and the governance mechanisms that might mitigate them.
In equity crowdfunding, there are two pronounced problems that result from significant information asymmetry associated with small firms and their investors. The first involves adverse selection, which posits that the pool of firms seeking to raise capital in equity crowdfunding may not have as high expected (risk-adjusted) returns as does the pool of firms trying to raise capital outside of equity crowdfunding. In the absence of prospectus requirements, it is very hard for a large number … Read more
M&A activity in February 2019 generally slowed in the U.S. and globally. Deal volume by dollar value decreased by 25.6% to $152.24 billion in the U.S., and by 30.3% to $248.57 billion globally. Further, the number of deals decreased by 47.0% to 367 in the U.S. and by 28.0% to 1,858 globally, representing the lowest monthly values recorded in the history of this publication. The average value of announced public mergers increased by 40.3% to $414.82 million in the U.S., but decreased by 3.2% to $133.78 million globally. Figure 4.
Strategic vs. Sponsor Activity
Strategic deal volume as … Read more
Stock market manipulation has been around since shortly after stock markets were invented. Everyone is familiar with the methodology in the standard “pump and dump” scheme: False rumors are circulated, the stock is bid up by the manipulators, supply might be constrained, and, once the public’s appetite is aroused, the stock is dumped by the manipulators.
But the internet has changed all that. No need exists today for the boiler shop or its battery of phones or even carefully assembled lists of suckers. All that one needs today is to put one’s message (written under a pseudonym) on a blog … Read more
More Brexit chaos unfolded last week as the UK Parliament voted (1) for a second time to reject Theresa May’s Brexit deal, (2) to reject a no-deal Brexit and (3) in favor of Brexit delay. Yet these actions seem to have accomplished very little: A third vote on May’s Brexit deal is looming – perhaps as early as Tuesday –a no-deal Brexit is technically still on the table, and whether Brexit gets delayed is now up to the EU. With each attempt to clarify the UK’s Brexit strategy, the same options (deal, no-deal, delay) keep bouncing back to Parliament, as … Read more
A board of directors performs essential strategic and oversight roles that maximize the value of the shareholders’ residual claim. However, despite careful selection of board members, too often boards neither reach their full potential nor perform their necessary governance obligations. The role of structural characteristics such as firm size and composition have been thoroughly explored. However, evidence tying traditional board variables to board and firm performance remains contradictory or incomplete. As a result, there has been an increasing interest in the role of behavioral and cognitive traits to explain how organizations work. Beginning with the seminal work of Bertrand and … Read more
Recent research on the effectiveness of the SEC’s filing review and comment letter process has focused almost exclusively on reviews of Forms 10-K and other periodic filings. Reviews of filings involving transactions such as mergers and acquisitions (M&A) have received little attention, even though (1) they are a top priority of the SEC and the executives and officers of the filing companies and (2) the SEC scrutinizes every transactional filing of this nature, in contrast to periodic filings, which are reviewed selectively. In our paper, SEC Comment Letters and M&A Outcomes, we examine the impact of one transaction-specific type … Read more
On March 6, 2019, the Financial Stability Oversight Council (“FSOC”) issued new proposed guidance (the “Proposal”) regarding the designation of nonbank financial companies as “systemically important financial institutions” (“SIFIs”). The Proposal makes substantial changes to FSOC’s existing designation approach by shifting its focus away from an “entity‑based” approach towards an “activities‑based” approach. Designation of an individual firm would only occur if FSOC determined that efforts to address the financial stability risks of that firm’s activities by the primary federal and state regulators have been insufficient.
In summary, the Proposal:
… Read more
Shared series trusts – an entity structure of recent vintage used in organizing mutual funds or exchange traded funds – are a strange species in the world of business entities. Simply put, such entities are designed to provide governance in a commoditized form. Essentially, the structure permits a participating business to outsource governance issues by assigning governance of the business to an “off-the-rack,” or, more precisely, “ready-to-serve,” board of directors. This type of arrangement would be counterintuitive for most corporate law scholars since the board typically occupies a position of primacy in the affairs of any business (i.e., governance … Read more
On February 21, 2019, the U.K. Competition and Markets Authority (CMA), at the U.K. government’s request, set out “wide-ranging and radical” proposals to reshape U.K. competition enforcement and consumer protection regime.1
These are proposals at the very earliest stage, and they remain far from becoming government policy. Still, the CMA has been vocal in positioning itself as a consumer champion and ties this effort to its role within a post-Brexit U.K. Some of these proposals may therefore have traction. If enacted, they would represent a step change in U.K. antitrust enforcement.
The proposals mark a significant intensification of … Read more
A hot topic in corporate governance is the so-called short-termism of publicly held companies. In response to actual and anticipated pressure from activist hedge funds, companies are, some say, focusing too much on short-term gains by, for instance, shunning research and development. This behavior undermines long-term value at the expense of shareholders and society, the argument goes. The opposing view is that the pressure to perform is necessary to keep management on its toes. Both camps seem to have a point.
In our recent paper, we argue that whether short-termism is a problem in general is impossible to determine. … Read more
The number of U.S. listed companies declined by almost half between 1996 and 2012, from 8,090 to 4,102, and had risen only slightly, to 4,336, by year-end 2017. However, the real market valuation of these listed companies tripled over the same period, from $10.2 trillion in 1996 to $32.1 trillion in 2017, implying that the average market valuation of a U.S. listed firm has increased six-fold over the past two decades. In other words, the U.S. public stock market has become populated exclusively by behemoths. Over the same period, the U.S. has experienced historically high levels of merger … Read more
Amidst the clamorous and wide-ranging debate over poison pills, few commentators have addressed whether these corporate defenses are consistent with NYSE’s and NASDAQ’s well-known prohibitions against large issuances absent shareholder approval (the “20 Percent Rule”). While poison pills are often assumed to qualify under the 20 Percent Rule’s public offering exception, current NASDAQ interpretative guidance regarding this exception casts doubt on that assumption. Thus, the triggering of a poison pill places a listed company at risk of noncompliance with the 20 Percent Rule and possible delisting. Because the U.S. Court of Appeals for the Second Circuit has recognized that a … Read more
In a new article, I discuss how investment advisers like Blackrock, State Street, and Vanguard, can become adequately informed prior to voting their proxies without having to read massive amounts of information about the hundreds or thousands of companies they manage for their clients. The issue has major significance for corporate governance because investment advisers to mutual funds, exchange-traded funds, and professional money managers of separately managed accounts are typically delegated the authority to vote their clients’ securities. Most commonly, these voting rights are associated with a company’s common stock. Investment advisers manage well over 30 percent of all … Read more
Executive compensation elicits strong opinions from shareholders, practitioners, and the public alike. Ideally, compensation packages should be designed to attract, retain, and motivate executives to perform in accordance with the objectives of their companies’ shareholders. This idea is consistent with the optimal contracting view of pay that high remuneration reflects compensation of effort, risk, or returns to ability (Murphy and Zabojnik, 2004). However, critics of executive compensation often claim that corporate pay packages have grown increasingly complex and are not sufficiently tied to long-term performance. According to this view, the level and complexity in the structure of CEO pay is … Read more
On February 25, 2019, the United States Court of Appeals for the Third Circuit upset decades of Federal Trade Commission (FTC) practice by significantly limiting when the FTC can bring competition and consumer protection enforcement actions in federal court.
In FTC v. Shire ViroPharma, Inc., the Third Circuit ruled that absent an allegation that a violation of the FTC Act (FTCA) “is” occurring or “is about to” occur, the FTC is limited to its administrative enforcement mechanism. This means that the FTC largely has lost its ability to seek injunctive and monetary relief for past violations that are not … Read more
On December 9, 2002, UAL Corporation, which operated as United Airlines, filed for bankruptcy protection, leading to huge losses by UAL’s creditors. Those creditors included UAL’s pensioners when UAL’s pension plans were terminated and taken over by the Pension Benefit Guaranty Corporation, which guarantees a much lower level of benefits than United had agreed to pay. Yet in the five years before the bankruptcy, UAL paid out more than $1.2 billion to shareholders in dividends and share buybacks. The shareholders kept that money despite the losses to others.
A long-held view in the academy is that shareholders are “residual claimants” … Read more
On February 20, 2019, Skadden held a webinar focused on a number of important developments in Delaware corporate law in 2018 and how such developments might affect M&A litigation in 2019. Specifically, the discussion focused on (i) the increasing importance of books and records demands and litigation under 8 Del. C. § 220, (ii) current trends in the stockholder ratification doctrines of Corwin1 and MFW,2 (iii) recent trends in appraisal litigation and (iv) a recent decision regarding forum selection clauses.
Below are high-level takeaways on each topic.
Books and Records Demands
Books and records demands are increasingly being … Read more
In a forthcoming paper in Arizona State Law Journal, I argue two main points regarding Deferred Prosecution Agreements (DPAs) negotiated between federal prosecutors and corporations accused of misconduct: First, since the recent appellate court ruling in United States v. Fokker Services B.V. (which narrowly circumscribes a court’s role in reviewing and approving DPAs), cases have begun to arise in which district courts express strong misgivings about having to approve DPAs they would otherwise reject as overly-lenient. Second, numerous countries around the world—including Australia, Canada, France, Ireland, Singapore, and the United Kingdom—appear to be rejecting U.S.-style corporate DPAs as … Read more
In the U.S., shareholder proposal filings have historically played an important role in advancing corporate governance and in highlighting key risks related to environmental and social issues. Some of the major shifts in governance practices during the past two decades – including the annual elections of directors, the adoption of majority vote standard for director elections, and the adoption of proxy access among large firms – were largely prompted by shareholder resolution campaigns. Shareholder proposals have also served as a driving force for greater corporate awareness of environmental and social risks, such as climate change risk management, diversity and inclusion … Read more
There is substantial debate about the role of outside (i.e., non-employee) directors in enhancing corporate governance. Most of the research on this topic has focused on public corporations, which are required by law to have adequate representation of outside directors on their boards. Yet we have a limited understanding of how firms build their boards over time before they become public. In our paper, Outside Directors at Early-Stage Startups, we examine startup firms at the series A stage (“early-stage” startups) to answer some fundamental questions about outside directors: Why and when do startups hire outside directors? What type of … Read more
Early 2019 has seen a wave of issuances of secured bonds to finance large acquisitions. The likelihood of slower rate increases by the Fed has led to an uptick in investor demand for secured bonds while making the pricing on such bonds more attractive for issuers. While issuers in recent years generally preferred term loans to bonds, last month, Dun & Bradstreet, TransDigm and CommScope increased the size of their secured bond tranches in response to investor demand. This update reviews some key considerations when issuing secured bonds in lieu of term loans or unsecured bonds.
Call Protection… Read more
The countdown to Brexit on March 29 brings new twists and turns every day. On Wednesday, the UK’s House of Commons voted on amendments to the Brexit process, establishing a March timetable for decisions on whether to seek a deal, no deal, or delay, while dangling the possibility of a second referendum. In light of these developments, and with apologies to U.S. college basketball’s championship tournament, here is a brief guide to the “Final Four” Brexit options.
A Brexit Deal: The only Brexit deal on the table is a UK-EU negotiated Withdrawal Agreement and Political Declaration, which proposes an orderly … Read more
Following an eight-day bench trial, Judge Freda L. Wolfson of the U.S. District Court for the District of New Jersey ruled in favor of certain subsidiaries of BlackRock, Inc. on $1.55 billion in claims brought under Section 36(b) of the Investment Company Act concerning two of BlackRock’s largest mutual funds.1 In re BlackRock Mut. Funds Adv. Fees Litig., No. 3:14-cv-01165-FLW-TJB. The court applied the Gartenberg standard, adopted by the U.S. Supreme Court in Jones v. Harris Associates L.P., 559 U.S. 335 (2010), and determined that the shareholder plaintiffs failed to demonstrate at trial that the fee charged … Read more
Shareholder litigation is an important way for shareholders to affect corporate governance. Legal protection of shareholders can mitigate agency problems that arise from the separation of ownership and control. In particular, litigation enables shareholders to deter and find remedies for management self-dealing and moral hazard problems. However, shareholder litigation has its own limitations. It can impose substantial costs on firms, such as attorney fees and cash settlements. It can also undermine managers’ careers and discourage them from pursuing risky but potentially value-increasing projects, reduce investment efficiency, and lead to higher external financing costs and a loss of corporate reputation. The … Read more
Analyzing corporate governance at companies in emerging markets can be really tough. A combination of differing regulatory standards, disclosure requirements, market norms, local investor preferences, and more all collude to make the evaluation of governance structures difficult. Giving credit where due, emerging market economies have made significant corporate governance strides over the past decade, as the adoptions and revisions of governance codes and relevant regulations have led to better disclosure standards, higher levels of board independence, and more shareholder protections.
Despite these developments, emerging markets continue to have a unique set of characteristics which require special attention when assessing corporate … Read more
In the past 30 years, defaults on corporate bonds have been substantially higher than the historical average. Dividing the years from 1970 to 2016 into two equal periods, the default rate of U.S. corporate bonds rose from 0.12 percent to 0.46 percent, almost quadrupling. The figure below illustrates this development. In a recent working paper with Victoria Ivashina of Harvard, we investigate the role of corporate disruption in this trend.
If disruption is the process whereby new firms appear, using new technology and new business models, why would it affect default rates? Precisely because disruption involves new firms displacing old, … Read more
On February 6, 2019, the Securities and Exchange Commission’s Division of Corporation Finance released Compliance and Disclosure Interpretations 116.11 and 133.11, which address the disclosure of self-identified diversity characteristics with respect to board members and nominees under Items 401 and 407 of Regulation S-K. The C&DIs provide that to the extent a reporting company’s board nominating committee considers self-identified diversity characteristics (e.g., race, gender, ethnicity, religion, nationality, disability, sexual orientation or cultural background), the SEC would expect the company’s disclosure to include identifying those characteristics and how they were considered.
Item 401(e) requires a description of the specific … Read more
U.S. Senator Elizabeth Warren recently proposed an ultra-high-net worth tax that would raise hundreds of billions of dollars in revenue per year while taking no money from 99.9 percent of U.S. households. Warren would annually tax household fortunes above $50 million at 2 percent of their value, and fortunes above $1 billion at 3 percent. In the U.S., 99.5 percent of households have a net worth below $16.5 million, according to the Survey of Consumer Finance. Even highly successful, hard-working, and well-educated people are extremely unlikely to pay a dime because of this proposed tax.
You do not have to … Read more
European private equity fund managers are well aware that demonstrating a commitment to responsible investment is becoming an essential component of a smooth and successful fundraising. Regulation is only one of the drivers for that change, but it is an increasingly significant one, and two recent developments are characteristic of the changing regulatory landscape. They also highlight an opportunity for private equity fund managers – many of whom are already focused on ESG (“environmental, social and governance”) considerations when making and managing portfolio investments.
The first development comes from the UK’s Financial Reporting Council (FRC), a body that regulates accountants … Read more
For two generations, U.S. companies, regulators, and activists have grappled with how to increase employment diversity in large firms. Quotas and other explicit hiring targets have tended to fare poorly in the courts. Instead, diversity policies have come to focus on processes rather than outcomes. If a firm can demonstrate that it used fair and objective practices when hiring, evaluating, and rewarding employees, the argument goes, then that firm should not be thought of as discriminatory, even if its resulting workforce does not represent the wider labor market.
This focus on confirming or denying discriminatory intent can obscure the original … Read more
As issuers prepare their Form 10‑K and 20‑F filings for fiscal year 2018, they should consider the guidance provided in some recent speeches from officials of the Securities and Exchange Commission (“SEC”), which highlight a number of considerations relating to disclosure in periodic reports. This memorandum summarizes several of those disclosure and accounting considerations, and highlights the key changes to SEC disclosure rules that will affect Form 10‑K and 20‑F filings this reporting season.
As issuers prepare their annual SEC reports, they should take a fresh look at a number of topics that have received increasing attention over … Read more
Everyone knows executive pay is rising. None of us can agree about why. Our forthcoming study in The Accounting Review, “Matching Premiums in the Executive Labor Market,” points to one reason—executives are being compensated for the risk they bear when leaving one firm for another. A company that wants to lure someone from another firm needs to bump up her compensation, as she’ll want a wage premium for sacrificing the comfortable fit with the current employer for the uncertainty of life at a new firm. This risk may be shared by both the company and the executive, but the … Read more
In a long-awaited but widely-expected development, the UK Financial Conduct Authority (“FCA”) has issued a new consultation paper proposing that Heads of Legal do not need to be designated as Senior Managers under the Senior Managers Regime (“SMR”). Ever since the introduction of SMR in 2016, the FCA has delayed formally confirming whether heads of legal should be allocated the SMF18 role (Other Overall Responsibility Function).
The FCA came to its position in light of the potential difficulties created by legal professional privilege. A fundamental principle of the SMR is that if a firm breaches a FCA requirement, the … Read more
In recent decades, economies have become bound together through globalization, a phenomenon that integrates societies and creates business opportunities but also challenges tax policies. The amount of taxes corporations pay is a heatedly debated topic among policy makers, academics, and the media. An article in the Financial Times (Toplensky, 2018), for example, argues that multinational enterprises (MNEs) are paying significantly lower taxes now than they did prior the financial crisis. An important way MNEs reduce their taxes is to move profits from the countries where they’re based to countries where tax rates are lower, a practice commonly referred to as … Read more
In early 2009, with the financial crisis still raging, progressive policymakers passed legislation upending the credit card industry. This legislation precluded card issuers from changing interest rates without sufficient warning or charging exorbitant late fees. Congresswoman Carolyn Maloney, who sponsored the legislation in the U.S. House, deemed it “historic” protection for consumers from deceptive bank practices. Conversely, Jamie Dimon, CEO of JPMorgan, postulated that restrictions on repricing would cause his bank to stop providing credit to 15 percent of its customers.
A few months later, the Federal Reserve amended its rules to disallow the levying of overdraft fees on consumers … Read more
Dissatisfaction with corporations is near the top of the political agenda for both the left and for the right.
The Accountable Capitalism Act, a bill that would make all corporations with $1 billion or more of annual revenue subject to a federal corporate governance regime (by requiring them to be chartered as a United States corporation), was introduced this past August by Senator Elizabeth Warren. Among other things, this regime would mandate that not less than 40% of the directors of a United States corporation be elected by employees, and that directors must consider the interests of all corporate stakeholders—including … Read more
Contract formation in commercial transactions can be an expensive and intricate process involving multiple stages and players, as well as significant investments in expertise and information. In complex asset purchases, leases, corporate acquisitions, or venture financing transactions, to name just a few types, it is practically impossible for the parties to execute a fully stipulated and binding contract in a single meeting or over a very short period of time. Negotiations of these transactions are typically sequenced, with a subset of issues being addressed at each stage and by numerous agents with different expertise. The parties frequently enter into preliminary … Read more
On January 24, former SAC Capital Advisors portfolio manager Mathew Martoma petitioned the Supreme Court to review his 2014 conviction for insider trading. Martoma’s conviction stems from activity in 2008 when he paid a doctor from the University of Michigan for tips about clinical trials of a potential Alzheimer’s medication. Before the results of the clinical trial were announced, Martoma caused SAC Capital to enter into substantial short-sale and options trades that resulted in approximately $275 million in gains and losses avoided. Martoma’s appeal is the latest in a series of insider trading cases, mostly in the Second Circuit, attempting … Read more
Innovation is the primary engine of growth in economies at the technological frontier, and a path to higher profits and growth for individual companies, as the likes of Apple, Alphabet, Microsoft, and Amazon make clear. CEOs play a crucial role in directing and overseeing their firms’ innovation efforts. This, however, creates a tension: The interests of the shareholders and the CEO might not be aligned, opening the door to agency frictions. In turn, such frictions can result in suboptimal investment in innovation, leading to losses in firm value for shareholders and low economic growth and welfare for the broader economy.… Read more
Over the past three decades, shareholder proposals have transformed the corporate landscape in the U.S. by spurring the adoption of governance best practices. Annual director elections, majority vote rules for director elections, shareholder approval for poison pills, and proxy access bylaws are some of the critical governance practices that have become common practice thanks to investor support for shareholder proposal campaigns led by a wide variety of investors—some large; others small. Despite the advisory (non-binding) nature of most shareholder proposals in the U.S., successive waves of campaigns eroded boardroom entrenchment by convincing directors to respond to shareholders’ calls for accountability, … Read more