In a new essay, available here, I discuss the essential but insufficient role of regulation to promote more effective stewardship by institutional investors. My essay offers a frame for specific policy recommendations that align the responsibilities of institutional investors with the best interests of their human investors in sustainable wealth creation, environmental responsibility, the respectful treatment of stakeholders, and, in particular, the fair pay and treatment of workers. In doing so, the essay: 1) explains how the corporate governance system we now have is fundamentally different from the system we had when the regulatory structures governing institutional investors were … Read more
ESG reporting is now recognized as a significant agenda item in the ESG space. The plethora of different reporting standards has caused concern and confusion, as those responsible for providing disclosure, as well as the intended beneficiaries of the disclosure, seek to navigate the evolving disclosure landscape. Building upon our recent client alert that provided an overview of ESG disclosure frameworks and standards, available here, we report on two recent initiatives to unify some of the competing standards:
- In September, five leading standard setters for ESG reporting, including the Global Reporting Initiative (“GRI”), the Climate Disclosure Standards Board (“CDSB”),
… Read more
Business persons and lawyers have long debated whether a business corporation does or should have a purpose other than advancing shareholder interests. In a democratic, pluralist society, the issue of corporate purpose remains important and will not (and should not) go away. However adamantly divergent descriptive and prescriptive positions are held, it is healthy that, periodically at least, the debate is revisited and disagreements aired. Neither corporate law nor business practice demands an unequivocal or uniform resolution. Different businesses will continue to answer the corporate purpose question differently.
Early American business corporations were expected to advance a public-serving purpose. … Read more
Special purpose acquisition companies (SPACs) are increasingly being used as an alternate vehicle to traditional initial public offerings. Companies that go public through a traditional IPO process are often subject to shareholder securities class actions. Inevitably, securities class actions will be filed against companies that become publicly traded and file public reports with the U.S. Securities and Exchange Commission as a result of a merger with a SPAC.
One often-referenced advantage of the SPAC process as compared to a traditional IPO is the ability to directly communicate financial projections to the market. Such projections may become a greater area of … Read more
One of the many significant reforms enacted in The Dodd–Frank Wall Street Reform and Consumer Protection Act of 2010 was the creation of a whistleblower bounty program within the SEC. The program increased monetary rewards for whistleblowing and provided protections from retaliation with the goal of encouraging more whistleblowers to report their information to the SEC. While there is a growing literature investigating the effects of many facets of Dodd-Frank, an unanswered question is whether the whistleblower program affected illegal insider trading – an activity that is traditionally hard for the SEC to detect and prosecute. In my recent paper, … Read more
In this article, we follow up on our overview of going private transactions (available here) by focusing on an important but often overlooked workstream in these deals. Companies are frequently privatized by a group of significant shareholders, outside investors and sometimes members of senior management, and in these “club” or “consortium” deals, the buyer group members must negotiate their rights in the privatized target company against the backdrop of the complicated take-private process. Below, we address key considerations for these negotiations, including the interplay of this process with the going private process and documentation.
A Private Company Investment
Members … Read more
Bank bailouts during periodic financial crises aim to stop financial panic and restore the stability of the financial system. Even if they are undesirable, future bank bailouts are unavoidable due to political and political economy reasons, whether or not they are regulated or economically efficient. In a new book, I build on existing literature to examine the different bank bailout and resolution techniques and tools through carefully selected case studies from the U.S., the E.U., the U.K., Spain, and Hungary. The pros and cons of the different legal and regulatory options are identified in order to reconstruct a regulatory framework … Read more
On October 15, the SEC announced a settlement stemming from a company’s series of stock buybacks undertaken pursuant to a Rule 10b5-1 plan. Although the SEC concluded that the company initiated the 10b5-1 plan at a time when it possessed material nonpublic information (MNPI), the SEC did not charge the company or its executives with fraud or insider trading. Instead, the SEC zeroed in on the company’s accounting controls, and found them inadequate to ensure compliance with the board of directors’ stock buyback authorization, which required the company to execute buybacks in accordance with its insider-trading policy.
The novel theory … Read more
Defined-benefit pension plans and deferred compensation are often sizable and important components of CEO pay packages. In recent years, though, they have prompted controversy among investors, policymakers, and academics. On the one hand, CEO pension and deferred compensation are unsecured and typically underfunded obligations, and, like debt (they are often known as inside debt) exposing managers to the same default risks and insolvency treatment as outside do debtholders, and can help strengthen the alignment of executive and debtholder incentives. Consistent with this view, prior studies find that firms that pay CEOs a higher level of debt-like compensation incur lower … Read more
The London Interbank Offered Rate (LIBOR) has been the standard floating rate benchmark for debt instruments of all kinds around the world for decades. It is calculated every banking day by polling major banks on their estimated borrowing costs for various currencies and tenors. If your business carries debt, the interest rate on that debt is likely to be linked to LIBOR. A few years ago, after it came to light that certain banks were effectively manipulating LIBOR, it was announced that LIBOR will cease to be quoted as of the end of 2021.
While the official end of LIBOR … Read more
In 2012, Mary L. Schapiro, the chairwoman of the Securities and Exchange Commission, argued that market participants had “short memories” and that the SEC as a result had to take regular enforcement actions “so that people don’t forget that they have [regulatory] obligations and that somebody is watching and […] willing to hold them accountable.”
Schapiro’s claim has intuitive appeal: If the capital markets regulator does not enforce its rules with some regularity, potential wrongdoers may interpret the resulting inactivity as a reduced risk of apprehension and commit more wrongdoing. In our recently published paper “Short Memories? The Impact of … Read more
On October 7, 2020, the US Securities and Exchange Commission (SEC) issued a Notice of Proposed Exemptive Order Granting Conditional Exemption from the Broker Registration Requirements of Section 15(a) of the Securities Exchange Act of 1934 for Certain Activities of Finders (the Proposal). The Proposal was issued in response to a recommendation by the SEC’s Division of Trading and Markets. It aims to establish, for the first time, a framework for permissible non-registered finder activity, which until this point has been addressed by a “patchwork of staff guidance and no-action letters.” If adopted, the Proposal would establish a non-exclusive … Read more
In the summer of 2020, with the U.S. economy bearing the impact of the COVID-19 pandemic, the unemployment rate was as high as it had been any time since 1948, and the NASDAQ and the S&P 500 indices reached their highest values ever. This dramatic difference in trajectories between unemployment and the stock market raises the questions of how much the stock market reflects the health of the American economy and whether in recent years it does so less than it used to. In a new paper, we explore these issues for the period 1950-2019 for a subset of our … Read more
Even before the emergence of the COVID-19 pandemic, shareholder activism had become a mainstay of public company life in the real estate investment trust world. But in the wake of the pandemic, which upended business as usual in a number of Real Estate Investment Trust (REIT) sectors, we expect shareholder activism to accelerate as the dust settles.
Below are some key trends that we believe will begin to play out as hesitation gives way to opportunism. Companies should thoughtfully assess how they intend to navigate the coming resurgence.
Demonstrating Real Estate Bona Fides
In light of recent market dislocation, the … Read more
There is often a significant delay between the start of an activity that ends up being regulated and the moment a regulatory response is announced or adopted. This regulatory lag (RegLag) enables individuals, firms, and regulators to engage in undesirable activities while the process of regulation moves slowly along. But reducing RegLag, especially in connection with the financial industry – an issue on which we focus – is challenging.
World-wide, regulators are for various reasons hamstrung in defining “wrongs” and identifying activities that should be regulated. Similarly, regulator reaction is also impeded by issues such as confusion about the optimal … Read more
This Client Alert provides an update on shareholder activism activity involving NYSE- and Nasdaq-listed companies with equity market capitalizations in excess of $1 billion and below $100 billion (as of the close of trading on June 30, 2020) during the first half of 2020. As the markets weathered the dislocation caused by the novel coronavirus (COVID-19) pandemic, shareholder activist activity decreased dramatically. Relative to the first half of 2019, the number of public activist actions declined from 51 to 28, the number of activist investors taking actions declined from 33 to 10 and the number of companies targeted by such … Read more
In a recent article, I compile a comprehensive toolkit for researchers investigating political influences on enforcement, compliance, and corporate governance outcomes. I review different conceptualizations of politics in regulatory theory. I collect both qualitative and quantitative empirical studies that have attempted to operationalize the construct of “politics” as a variable and test its influence on regulatory enforcement and compliance outcomes. And I analyze these studies to identify the categories of political variables that researchers most commonly use, the merits and limitations of different approaches, and key gaps in the literature to be addressed in future research. The aim of … Read more
The widespread economic uncertainty caused by COVID-19 poses distinct challenges for buyers and sellers seeking to identify M&A opportunities, as companies evaluate the impact of the pandemic on their businesses to date, and seek to predict its future impact. Continued volatility in the financial markets and the lack of visibility into how the pandemic will affect the global economy in the near or longer term, as well as the pace and scope of economic recovery, introduce elements of conjecture into the valuation process. Securing financing for a transaction is also likely to be difficult, as traditional credit providers may be … Read more
On October 8, 2020, in In re BofI Securities Litigation, the United States Court of Appeals for the Ninth Circuit reversed the district court’s finding that the plaintiffs had not adequately alleged loss causation when claiming that BofI Holding portrayed its banking company as a safer investment than it actually was. These claims originated in two places: a whistleblower lawsuit and blog posts published by a pseudonymous short seller. The court reversed the district court on the first, holding that a whistleblower lawsuit could serve as a corrective disclosure even though it merely alleged that fraud had occurred.
More … Read more
For the last several months, Arnold & Porter has been tracking the Department of Justice’s announcements of fraud cases involving the alleged misappropriation of funds provided by the Coronavirus Aid, Relief, and Economic Security Act (CARES Act). So far, DOJ has launched more than 50 such criminal prosecutions for fraudulently seeking or obtaining Paycheck Protection Program (PPP) loans and other funds that Congress appropriated to help Americans cope with the pandemic and related economic challenges. Arnold & Porter’s fraud tracker collects these cases in one place and enables users to see how and where DOJ has been pursuing CARES … Read more
The COVID-19 pandemic has disrupted normal life and triggered massive economic slowdowns. In the United States, consumer spending has dropped dramatically and unemployment temporarily hit the highest levels since the Great Depression. As a result, many experts have projected a massive number of consumer and business bankruptcy filings in the coming months.
In our recent paper, “Bankruptcy and the COVID-19 Crisis,” we track bankruptcy filings in the U.S. using real-time data on the universe of filings. Historically, bankruptcy filings have closely tracked the business cycle and unemployment rates. However, we show that this relationship has reversed during the COVID-19 crisis … Read more
In the Private Securities Litigation Reform Act of 1995, Congress imposed heightened pleading standards on securities fraud claims in order to discourage the filing of unmeritorious litigation. Key among these standards are the dual requirements that a complaint “state with particularity”: (i) “all facts” on which allegations based on information and belief are formed; and (ii) facts giving rise to a “strong inference that the defendant acted with the required state of mind.” Notwithstanding these heightened pleading standards, a small number of courts within the Second Circuit have continued to apply pre-PSLRA case law finding scienter to be … Read more
It is now widely recognized that legal entity status fulfills important economic functions by separating a firm’s business assets and the personal assets of its founders, directors, or shareholders, and that this separation is stronger in corporations than in partnerships (Hansmann et al. 2006). Corporate assets are controlled by an independent board and are literally locked in, in the sense that neither firm founders nor subsequent shareholders can withdraw all or part of their equity shares or force a partial liquidation to satisfy the claims of their personal creditors. This institutional arrangement, which cannot be achieved by contract alone, mitigates … Read more
Ten years ago, the U.S. Supreme Court issued its landmark decision in Morrison v. National Australia Bank Ltd., which limited the extraterritorial application of the federal securities laws in order to prevent the United States from becoming “the Shangri-La of class-action litigation for lawyers representing those allegedly cheated in foreign securities markets.” In Morrison, the Supreme Court threw out decades of lower court precedent that had applied Section 10(b) of the Securities Exchange Act if the conduct at issue occurred in the United States or had effects felt within the United States, criticizing that test as “unpredictable,” … Read more
Institutional ownership has grown tremendously over recent decades, rising to more than 70 percent of U.S. public firms. The composition of institutional ownership has also changed, with a remarkable growth in passive funds: The fraction of equity mutual fund assets held by passive funds has increased six-fold, from around 5 percent to 30 percent. The Big Three index fund managers alone now cast about 25 percent of votes in S&P 500 firms. How active and passive asset managers monitor and engage with their portfolio companies has thus become of utmost importance for the governance and performance of public firms.
There … Read more
On October 3, The Shareholder Commons and B Lab submitted their comment on a recent new rule (the “Proxy Proposal”) proposed by the Department of Labor (the “DOL.”) The Proxy Proposal would limit independent proxy voting by pension trustees. It is part of a series of rules recently proposed or adopted by the DOL and the SEC that tilt the scales against shareholders and in favor of management on disputes related to social and environmental issues. This post summarizes one of the critical arguments from our comment, which applies to this entire series of new rules meant to limit the … Read more
Following the decision of the English High Court in the high profile test case brought by the UK’s Financial Conduct Authority (the “FCA”), the UK insurance industry faces the prospect of being liable to cover losses relating to COVID-19 under business interruption policies.
In this piece, we review the implications of the decision and the position of policyholders in both the UK and the US.
The English High Court has found that a number of representative business interruption insurance policies will cover financial losses caused by COVID-19. Insurers can now be expected to incur significant financial liabilities … Read more
Governments have tended to treat climate change as primarily an issue of environmental policy. Recent climate change-related events, ranging from hurricanes to forest fires to floods, and their devastating effects on the global economy, however, are gradually alerting regulators and governments to the risks of climate change to financial stability. This has spurred action in several countries, as well as globally, to address climate change as a financial risk. Nevertheless, the U.S. has been notably absent from these efforts despite being the home to several large financial markets.
Covid-19 has also highlighted the perils of ignoring seemingly non-financial risks. Perhaps … Read more
In recent years, there has been a proliferation of merger control rules throughout the world as well as policy changes in the field. As shown by Amazon’s experience in its recent 16% minority shareholding acquisition of the online restaurant delivery operator Deliveroo, this has led to new risks and challenges for merging companies, as well as significant timing issues (in big, worldwide transactions, it can now take as long as 18 months or more to get through all of the regulatory minefields). At least 130 jurisdictions in the world (of about 200) have rules which concern, directly or indirectly, merger … Read more
Since the1990s, global investment in private equity has increased from under $10 billion per year to well over $100 billion. Over the same period, there has also been a shift from public markets in major economies like the U.S. and UK. These developments are likely connected by the fact that small and mid-sized companies are staying private longer or never going public, which is largely the result of more private funding being available to late-stage start-ups and growth companies in these economies.
Over the last two decades, another notable trend has been the rise in private equity investment outside the … Read more
On September 21, 2020, the Federal Trade Commission published a Notice of Proposed Rulemaking (“NPRM”) pertaining to pre-merger notification rules under the Hart-Scott-Rodino Act that was supported by the Department of Justice. The FTC proposes changing the definition of “person” under the HSR rules to include “associates,” and adding a new “de minimis” exemption to cover investments up to 10% where the acquiring person does not already have a “competitively significant relationship” with the issuer, such as being a competitor, officer or director, or vendor of the acquired person. The FTC additionally published a blog post on September 23 modifying … Read more
Equity index futures are futures contracts written on equity indices such as the S&P 500 or the Dow Jones Industrial Average. Deriving values from the underlying indices, index futures offer expedience to investors interested in a broad economic sector or geographical region represented by the indices without taking a position in each constituent stock. Equity index futures started trading in the U.S. on the Chicago Mercantile Exchange (CME) in 1982 against the S&P 500 index. Today, equity index futures are one of the most actively traded financial derivatives in the U.S., with almost 400 million index futures contracts traded on … Read more
The Situation: A number of shareholder derivative lawsuits in federal court have been filed seeking to hold directors and officers of major companies accountable for alleged failures to uphold their commitment to diversity. To date, the lawsuits have been filed predominantly by the same plaintiffs’ law firm.
The Issue: Shareholders allege that directors and officers breached their fiduciary duties by failing to monitor compliance with anti-discrimination laws and nominate diverse candidates to their boards, and violated federal securities laws by misrepresenting their efforts to achieve satisfactory levels of diversity among board members and executives.
Looking Ahead: These novel shareholder claims … Read more
On September 30, 2020, California Governor Gavin Newsom signed into law a landmark bill (AB 979) requiring boards of directors of California-based public reporting corporations to have a minimum number of directors from underrepresented communities on their boards.
Definition of Underrepresented Communities
The law defines underrepresented communities broadly to include those who self-identify as “Black, African American, Hispanic, Latino, Asian, Pacific Islander, Native American, Native Hawaiian, or Alaska Native, or . . . as gay, lesbian, bisexual, or transgender.” Modeled on California’s 2018 boardroom gender diversity law (SB 826), the new diversity statute is the first state or federal law … Read more
One of the thornier areas of law for U.S.-regulated banks and their holding companies is that regarding confidential supervisory information (CSI). U.S. regulators treat bank examination reports and related correspondence and materials, which are often the most useful sources of information about a financial institution, as the regulators’ own property, with parties subject to severe penalties for disclosing such information without prior regulatory approval. Receiving approval is often a time-consuming process that may frustrate corporate transaction and litigation deadlines. In addition, each of the federal regulators – the Board of Governors of the Federal Reserve System (Federal Reserve), the … Read more
The annual report, like other regulatory filings, is more than a legal requirement; it provides an opportunity for public companies to communicate their financial health, promote their culture and brand, and engage with a full spectrum of stakeholders. How readers process all this information affects their perception of, and hence participation in, the business in significant ways. More and more companies are realizing that the target audience for disclosures is no longer just human analysts and investors, but also robots and algorithms that recommend what shares to buy and sell after processing information with machine learning tools and natural language … Read more
So far in 2020, the U.S. Securities and Exchange Commission (SEC) has brought fifteen enforcement actions in the offerings of digital assets space. Three of these actions do not involve fraud; rather, they allege solely violations of the registration provisions found in Section 5 of the Securities Act of 1933 (“Securities Act”), which are strict liability provisions that do not require proof of scienter or mental state. Even so, the consequences of a registration violation can be severe.
This week, the SEC brought a settled action for Section 5 registration violations against Unikrn, Inc., a Seattle, Washington based operator … Read more
During the last 15 years, a consequential U-turn occurred in federal white-collar criminal enforcement. Federal enforcement of white-collar crimes all but collapsed in the period of 2000 to 2007. In the first 11 months of 2008, the SEC prosecuted 133 cases compared with 437 in 2000 and 513 in 2002. Justice Department prosecution of financial fraud cases based on SEC referrals would decline from 69 cases in 2000 to nine in 2007. Throughout the 2008-2009 financial meltdown, virtually no senior corporate executives were prosecuted. Journalist Jesse Eisinger in 2014 would report that only one top banker went to jail as … Read more
The Vertical Block Exemption Regulation1 (VBER)—the antitrust legislation governing most vertical arrangements in Europe2—entered into force on June 1, 2010. Among other things, it creates a safe harbor for vertical agreements which meet certain conditions, shielding them practically from the application of Article 101 of the Treaty on the Functioning of the European Union (TFEU). Guided by the VBER and the Vertical Guidelines3 published by the European Commission (EC), the onus is on companies to self-assess their vertical agreements.
As the VBER will expire on May 31, 2022, the EC has recently undertaken an evaluation of … Read more
The Department of Labor (DOL) has launched a major attack on investor protection and shareholder rights in the last three months. In three successive strikes against long-standing practices of ERISA fiduciaries, the DOL has created disorder and confusion. Its actions have included threatening managers of Employee Retirement Income Security Act (ERISA) assets with sanctions if they try to advance the inclusion and factoring of ESG considerations into the investment process, blocking such fiduciaries from using proxy advisers or voting on proxy matters unless they are certain such votes would benefit the pecuniary interests of the underlying beneficiaries. Most alarming, DOL … Read more
BlackRock, an investment adviser that primarily markets and manages index funds to millions of passive investors around the globe, has become a leading shareholder activist. Based on the extremely large amount of assets it has under management ($7.3 trillion), its importance as a shareholder activist cannot be overstated. BlackRock’s shareholder activism is reflected in its rhetoric disclosing the objectives of its activism, shareholder voting, and engagement (direct or indirect communication) with portfolio companies.
The issue that I address in a recent paper is whether the fiduciary duties of a manager of an “employee pension benefit plan” under the Employee Retirement … Read more
Cryptocurrencies have the potential to operate as a new financial asset class; as a novel fund-raising tool for ventures; as a more efficient payment mechanism, especially across borders; and as the foundation for an innovative, new economy of distributed applications. They hold promise as competitors to entrenched incumbents in financial services and could generate substantial benefits for investors.
With the maturation of cryptocurrencies as a financial asset class, regulators face a crossroads. Some argue that governments should allow emerging technologies to develop unimpeded – and that attempts to regulate cryptocurrencies would simply push their exchanges, investment managers, and surrounding firms … Read more
For the partners and managing directors of private equity firms who have also been designated to serve as directors of one of the firm’s portfolio companies (“designated directors”), navigating potential conflicts of interest is a fact of life. As businesses brace for the next economic downturn in the wake of the coronavirus pandemic, these conflicts are likely to become more prevalent and may expose directors to increased litigation risk. Designated directors need to be particularly cautious in circumstances where the investing firm’s interests diverge from those of the portfolio company—and crises like the current pandemic, which has placed many portfolio … Read more
On September 23, 2020, the U.S. Securities and Exchange Commission approved changes to its highly successful Dodd-Frank Act whistleblower program in a 3-2 vote . The program has resulted in over $2.5 billion in penalties against public companies, $750 million returned to investors, and $500 million paid in rewards. Paying corporate whistleblowers mandatory monetary rewards of between 10-30 percent of all penalties obtained from commission enforcement proceedings triggered by their allegations has been a highly controversial law from the start. These controversies all played out during the commission’s prolonged whistleblower rulemaking proceeding.
The whistleblower advocacy community strongly opposed the major … Read more