Source: http://jimhamiltonblog.blogspot.com/2015/04/
Timestamp: 2019-04-24 16:59:21+00:00

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A whistleblower who was subjected to a series of retaliatory actions by Paradigm Capital Management will receive the maximum award payment of 30 percent of amounts collected in connection with the case. In its first whistleblower retaliation action, the SEC determined the level of the award after concluding that the person suffered unique hardships as a result of reporting to the Commission.
Retaliatory actions. The SEC charged Paradigm Capital with retaliating against the whistleblower after the firm learned that the person reported potential misconduct to the agency. According to the SEC, Paradigm Capital immediately engaged in a series of retaliatory actions against the whistleblower including removing the person from a then-current position, and tasking the whistleblower with investigating the very conduct the whistleblower had reported to the SEC. The Commission claims that Paradigm Capital also changed the whistleblower’s job function, stripped the whistleblower of supervisory responsibilities, and otherwise marginalized the whistleblower.
In a press release, Sean McKessy, chief of the SEC’s Office of the Whistleblower, emphasized that the Commission is committed to supporting the whistleblower program. He said that he hoped this anti-retaliation action will encourage potential whistleblowers to come forward in light of the SEC’s demonstrated commitment to protect them against retaliatory conduct and to provide significant financial awards in these cases. According to the order determining the award claim, the whistleblower in the Paradigm Capital case will receive more than $600,000 for aiding the SEC’s successful enforcement action.
Denial of awards. In a separate action, the Commission denied a different whistleblower’s award claims in connection with five actions brought by the SEC. In the order, the SEC noted that the whistleblower applied for an award in cases against Citigroup, Merrill Lynch, Navistar International, Wells Fargo Securities, and Morgan Stanley Investment Management.
To qualify for an award, a whistleblower must voluntarily provide the Commission with original information that leads to the successful enforcement of a covered judicial or administrative action. With respect to four of the five actions in question, the Commission found that the record conclusively demonstrated that the claimant submitted the tip after the matters were settled. As a result, the tip could not have led to the successful enforcement of those four actions, the SEC said.
With regard to the action against Morgan Stanley Investment Management, the staff again concluded that the whistleblower’s tip did not lead to the successful enforcement of the matter. According to the SEC, after the claimant submitted the tip, the staff that conducted a preliminary review of the information designated the tip for no further action and did not forward it to anyone assigned to the case. In addition, there is no indication that the enforcement staff members responsible for the Morgan Stanley case either received or relied upon any information provided by the claimant, the SEC noted.
To date, the SEC has awarded 17 whistleblowers since the program began more than three years ago; payouts total over $50 million.
A panel of the Ninth Circuit affirmed the dismissal of a counterclaim alleging breach of fiduciary duty by directors of a California corporation with a Canadian parent company. In what it called an “anomalous case,” the panel said that although the district court did have subject matter jurisdiction regarding the controversy, the counterclaim by the shareholder did not raise a cause of action for which the district court could grant relief, because the right could only be enforced in the Court of Queen’s Bench of Alberta (Seismic Reservoir 2020, Inc. v. Paulsson, April 27, 2015, Sentelle, D.).
Background. Seismic Reservoir 2020, Inc. (Seismic), a California company, provided oil reservoir imaging technology and services. In 2009, Seismic sued Björn Paulsson, alleging violations of the Lanham Act and breach of fiduciary duty. Paulsson countersued, bringing his own breach of fiduciary duty claim, as well as other claims arising from his status as a shareholder and director of Seismic’s parent company, Seismic Reservoir 2020, Ltd., which was incorporated in Alberta, Canada.
In 2012, Paulsson dropped some of the counterclaims, and in a trial brief characterized his remaining counterclaim as “a breach of fiduciary duties owed by directors to shareholders” under Section 242 of the Alberta Business Corporations Act, which gives the Court of Queen’s Bench of Alberta broad equitable powers to regulate corporate matters. The district court recast the claim as an action for shareholder oppression under that section.
To determine whether it could hear the case, the district court appointed an independent expert on Alberta corporate law, who gave the opinion that the statute conferred exclusive jurisdiction on the Alberta court. The expert said that “only an Alberta Court has jurisdiction to grant a remedy for oppression brought in respect of an Alberta corporation.” The district court decided it could not issue a remedy for shareholder oppression under Section 242, and dismissed Paulsson’s counterclaim under Federal Rule of Civil Procedure 12(b)(1) for lack of subject matter jurisdiction.
Exclusive remedy. Reviewing the dismissal de novo, the panel concluded that actually, the district court did have subject matter jurisdiction. Paulsson, a California citizen, sought damages of more than $75,000 against Canadian citizens. This fit “squarely within” the language of 28 U.S.C § 1332(a)(2), relating to diversity jurisdiction. The exclusive jurisdiction provision in the Alberta statute did not divest the district court of its jurisdiction, because only the Constitution and the laws of the United States can dictate what cases or controversies U.S. federal courts may hear.
However, Paulsson was still out of luck. The panel explained that although foreign law cannot limit the jurisdiction of an Article III court to entertain controversies, when foreign law creates a right, it may determine the remedy. The Alberta statute provided a remedy available only through the Court of Queen’s Bench of Alberta, so the district court could not grant the relief requested. Therefore, the panel affirmed the dismissal of the counterclaim under Rule 12(b)(6), rather than 12(b)(1).
Because Paulsson could not possibly win relief, the panel did not remand to the district court to give him an opportunity to amend his pleadings.
The case is No. 13-55413.
The SEC staff has granted no-action relief to Hertz Global Holdings, Inc. to allow the company to grant equity compensation awards to employees despite the fact that an ongoing review of recent financial statements has prevented it from being current in its reporting obligations. Because the company does not expect to complete a review of its 2012 and 2013 financial statements until mid-year, it is not eligible to use Form S-8 to register the shares it plans to award pursuant to its employee compensation plan. The staff agreed that the awards would not represent an “offer to sell” or “sale” of unregistered securities under Securities Act Section 2(a)(3) and recommended no action be taken against the company if it awards the stock without registration (Hertz Global Holdings, Inc., April 21, 2015).
Restatement. According to the incoming no-action request letter, Hertz said it identified certain accounting errors during preparation of its first quarter 2014 Form 10-Q. The errors related to Hertz's conclusions regarding the capitalization and timing of depreciation for certain non-fleet assets, allowances for doubtful accounts in Brazil, as well as other items. The company’s audit committee thereafter consulted with management and concluded that it must restate 2011 financial results, and ordered a review of financial records for fiscal years 2011, 2012 and 2013 to determine whether further adjustments were necessary. Additional findings caused the company to conclude that 2012 and 2013 annual and quarterly financial statements must also be restated. The company disclosed that it would not complete the process of reviewing and filing updated financial statements before mid-2015.
Compensation plan. Hertz said that it was concerned that if it was unable to issue the equity awards it would not be able to retain key employees. Also, replacing the equity grants with cash awards or bonuses did not fit with the company’s approach to providing both long-term and short term incentives to employees. The company considers the equity awards important to both motivate and retain employees.
The company said the awards will be made to employees identified by its compensation committee and will be pinned to achievement of annual EBITDA results for 2015, 2016, and 2017. None of the employees are considered affiliates of the company within the meaning of Securities Act Rule 405, and the awards will cover a maximum of 800,000 shares of common stock, representing approximately 0.2 percent of the company's outstanding common stock.
Conditions. Hertz said the award agreements will not vest prior to such time as the company is caught up with its Exchange Act reporting obligations. Unvested portions of the awards will be forfeited upon termination of employment. The company said it will also treat all shares awarded on a “no-sale” basis as “restricted securities” within the meaning of Securities Act Rule 144 and recipients must agree as a condition to the award that none may be sold until the company has an effective Securities Act registration statement relating to the awarded shares.
The staff of the SEC’s Division of Investment Management has issued responses to frequently asked questions related to the money market fund reforms adopted in July 2014. In addition to providing specific guidance concerning reporting and disclosure obligations, compliance dates, and valuation practices, the FAQs address the reform package’s new fund classifications and practices surrounding the redemption fee and gate requirements. The staff plans to amend its positions going forward to assist money market funds in their compliance efforts as novel issues arise.
Disclosures. Among other comments on specific form and item requirements, the staff advised that a capital contribution made by the fund’s investment adviser to a fund to avoid fund dilution would not need to be reported on Form N-CR as financial support, provided that it occurs as part of a one-time reorganization intended to bring a fund into compliance with the money market fund reforms. The staff also stated that a retail money market fund may disclose in the summary section of its statutory prospectus that it limits investments to accounts beneficially owned by natural persons. In addition, the staff explained the methods money market funds should use to update their registration statements to reflect the disclosure requirements of the reforms, highlighting the distinctions between post-effective amendments or prospectus supplements. These updates are particularly important given the materiality and breadth of disclosure necessary in transitioning to a floating NAV and the new ability to impose fees and gates, according to the staff.
As to website disclosures, the staff noted that tax-exempt funds are not required to maintain daily liquid assets and that floating NAV funds using existing guidance allowing them to value certain portfolio securities that mature in 60 days or less at amortized cost are subject to certain reporting obligations. Floating NAV funds must also refrain from stating in advertisements or prospectus materials that they will seek to maintain stable NAV by limiting portfolio securities to securities with a remaining maturity of 60 days or less and valuing those securities using amortized cost, the staff explained, as these types of contradictory statements could be confusing or misleading to investors. The staff directed funds to the SEC’s valuation guidance FAQs for further information on the amortized cost method.
Retail money market funds. The staff also noted that, for the purpose of qualifying as a retail money market fund, a fund may not determine beneficial ownership using the pecuniary-interest test, as a decision to redeem securities is an exercise of investment power and the purpose behind the retail money market fund exemption would not be served if beneficial ownership could be determined based solely on entitlement to funds. The staff also explained that the existence of certain accounts used in conjunction with a defined contribution plan would not disqualify the plan from investing in a retail money market fund, so long as the plan is owned by natural persons with voting and investment power. The staff also stated that a non-natural person affiliate may beneficially own shares of a retail money market fund provided that the investment is intended to facilitate fund operations. Further, according to the staff, a master fund in a master-feeder money market fund structure can qualify as a retail money market fund if all of its feeder funds are qualified retail money market funds.
Fees and gates. With regard to the new redemption fee and gate requirements, the staff explained that, if a shareholder of a money market fund submits a redemption order while a gate is in effect, the shareholder submits a new order after the gate is lifted and that a fund may choose procedures for how it handles unprocessed purchase orders that it has received prior to notification of the implementation of a liquidity fee or gate. The staff also stated that it would not object if a money market fund’s board chooses to honor written redemption orders or pay redemptions without the liquidity fee if the fund can verify that the order was submitted before the fund suspended redemptions or imposed a liquidity fee. While it may not be practical to immediately affect a fee or gate, a fund should work to implement them quickly after the board’s determination to impose them, the staff advised.
NASAA has adopted a state model rule and related guidance concerning business continuity and succession planning for investment advisers. The model rule and guidance are intended to ensure that smaller advisers fulfill their responsibilities under state securities laws to protect their clients and mitigate any client harm in the event of a significant interruption to the adviser’s business, such as from utility outages, natural disasters, terrorist acts, or other types of disturbances. The NASAA membership adopted the model rule at NASAA’s Public Policy Conference on April 13.
The model rule and guidance are written pursuant to Section 203 of the Uniform Securities Act of 1956 and Section 411 of the Uniform Securities Act of 2002. As discussed in NASAA’s original proposing release, NASAA takes the view that a very specific, prescriptive rules-based approach does not apply equally to each state-registered investment adviser. NASAA also believes, however, that a broad rule was necessary to require some sort of business continuity and succession plan, and that every plan should include certain general elements.
methods to minimize service disruptions and client harm.
Model guidance. The model guidance is intended to assist advisers in creating a specific business continuity plan that complies with the general and broad model rule but is tailored in a manner that is appropriate and cost-effective to their business models. Critical elements that advisers should consider adding to business continuity plans are highlighted in the guidance. The guidance also includes a series of case studies that are designed to provide another way for advisers to consider how unexpected events will affect their business.
Five state treasurers have written to the SEC asking it to adopt a rule to require all publicly traded companies to disclose their political spending. The treasurers of Oregon, North Carolina, Rhode Island, Washington and Vermont represent funds with more than $300 billion in assets under management, and believe the requested rule would help them ensure that those assets are invested responsibly.
2014 elections. In the letter, the treasurers cited statistics from the Center for Responsive Politics indicating a jump in anonymous, or dark money, spending from $135 million to $170 million between the 2010 and 2014 mid-term elections. According to the treasurers, that amount is expected to increase significantly in the 2016 election. Too many companies are able cloak donations behind anonymous 501(c)(4) groups and other intermediaries, they said, and a comprehensive system of disclosure is needed.
A petition to add political spending to the list of information available to shareholders was filed in 2011, and the SEC has received more than one million comments on it. Also underscoring the importance of the issue, they claimed, is the fact that one of the top shareholder proposals to U.S. companies over the past three years has been disclosure of political and lobbying activities.
Positive trend. The treasurers acknowledged a trend toward greater accountability in this area. In addition to successful shareholder activism, many companies have voluntarily agreed to disclose political spending, they noted. They pointed to a recent survey of the top 300 companies in the S&P 500 which found that 61 percent of companies disclose direct political spending and 43 percent disclose payments made to trade associations that engage in political spending.
The treasurers asked the SEC to recognize the shift toward greater disclosure, and to create a uniform structure for that disclosure under a new rule. In a press release, North Carolina Treasurer Janet Cowell urged the SEC to adopt the rule so that investors can hold directors accountable when they choose to spend shareholder resources for political purposes. The integrity of the financial system depends on shareholders being able to evaluate the possible risks of their investment relative to its return, she concluded.
SEC administrative law judge (ALJ) Carol Fox Foelak has at least temporarily put the brakes on the agency’s administrative case against self-proclaimed “Turnaround Queen” Lynn Tilton and her firm Patriarch Partners, LLC. ALJ Foelak issued an order late this afternoon, stating only that the May 4 start date for the proceeding is postponed sine die, and a prehearing telephone conference will take place on that day instead (In the Matter of Lynn Tilton, April 20, 2015).
ALJ Foelak’s order provided no reasons for the delay. But the Commission’s rules of practice give ALJ’s discretion, for good cause shown, to postpone or adjourn a proceeding before issuing an initial decision or closing the record. Two weeks ago, SEC Chief ALJ Brenda P. Murray assigned the Tilton matter to ALJ Foelak and set May 4 as the start date of the administrative proceeding.
The Commission’s late March order initiating proceedings against Tilton alleged that she and her firm misled investors by not accurately reporting the value of losing investments in collateralized loan obligations. According to the SEC, this enabled Tilton and Patriarch to receive management fees and other payments that would have been much lower if her firm had used the correct method to calculate them. The SEC said these lapses violated the Investment Advisers Act.
Tilton also is one of six persons challenging the validity of the SEC’s administrative enforcement regime in federal court. Two of these cases have withered as the individuals there neared settlements with the SEC in their administrative proceedings.
But another pair of these cases resulted in court decisions. Laurie A. Bebo, the ex-CEO of Assisted Living Concepts, Inc., whose administrative case was set to begin today, recently asked the Seventh Circuit to overturn a federal judge’s ruling dismissing her court case against the SEC. And just last week, a federal judge in Manhattan declined to stop the SEC’s administrative proceeding against Barbara Duka, a former co-manager of the commercial mortgage backed securities group at Standard & Poor’s Rating Service.
The release is No. AP-2558.
An appeals court heard oral argument on whether an adviser’s transactions in thinly-traded stocks were illegal market manipulation or a legitimate strategy to induce holders to come forward and sell. The SEC found that the adviser’s late-afternoon trades were intended to mark the close in order to reflect higher portfolio balances in clients’ monthly account statements (Koch v. SEC, April 20, 2015).
Background. Donald L. Koch and Koch Asset Management LLC (KAM) were found to have engaged in market manipulation through marking the close of three thinly-traded securities. According to the SEC’s order instituting proceedings, the transactions, which occurred near or at the end of the month, were meant to boost the portfolio performance reflected in monthly statements sent to KAM’s advisory clients. After a six-day hearing, the administrative law judge held that the respondents violated the antifraud provisions of the Exchange Act and Advisers Act and imposed a $75,000 penalty and $4,000 in disgorgement. These sanctions were stayed pending appeal to the D.C. Circuit.
Focusing on price. The pointed questions from Judges Henderson, Millett, and Ginsburg at the oral argument focused heavily on the facts and characteristics of the trading at issue. Thomas O. Gorman of Dorsey & Whitney LLP, arguing for Koch and KAM, characterized the case as one where an investment adviser with a long-term track record placed trades with a valid business purpose but then was sidelined by an SEC enforcement action creating a retroactive rule of decision. But Judge Millett questioned Gorman’s focus on the inference of manipulative intent from the mere fact of seeking a higher price for your trade. Wasn’t the SEC’s argument, she asked, that the petitioners sought a higher closing price for the sake of a higher closing price? Gorman responded that the traders were trying to obtain a particular price within the confines of their trading strategy and consistent with the limit order that they set, something that happens every day in the market.
Judge Millett also asked about an audio recording of a telephone conversation in which Koch told his broker, “My parameters are, if you need 5,000 shares, do whatever you have to do. I need to get it above 20 … 20 to 25, I’m happy.” “Isn’t that all about the price?” she asked. Gorman emphasized that the stock in question was so illiquid that it acted almost as a private negotiation to buy. By laddering up the price, Koch was enticing holders to enter the market. But the judge expressed doubts about this explanation, noting that the order was so close to the close of the market that there would be no time left for someone to come in and trade that stock before the market closed.
Evidence of intent to manipulate. Dominick Freda, representing the SEC at the argument, pointed to substantial evidence supporting the finding that the respondents engaged in marking the close. All the arguments that Gorman raised were raised at the hearing below, and the Commission considered and rejected those arguments based on the evidence, including emails and audio recordings of phone calls demonstrating the intent of Koch and KAM to raise the price of the stocks and, in turn, raise their clients’ account balances.
The judges’ questions of Freda focused on the line between a legitimate and legal trading strategy, on the one hand, and unlawful manipulation, on the other. Judge Millett asked whether, if Koch intended to raise the price but did so at noon instead of close, that would have been manipulation. Freda conceded that if he did so with a genuine intent to induce others to enter the market, that would be legitimate, but stressed that the evidence did not support this interpretation. Judge Ginsburg also asked whether an email from Koch instructing his broker to make a trade “as near to $25 as possible without appearing manipulative,” which the initial decision construed as evidence of manipulation, could be interpreted as a sensible and lawful message; in other words, make the trade in such a way that complies with the rules. That could be a viable interpretation, Freda responded, if that were all the SEC had. The Commission acknowledged that what Koch argued he was doing could be a legitimate business strategy, but his intent, based on the email and phone communications, clearly was to artificially raise the price at the end of the day to mark the close.
Freda said that if this were a legitimate trading strategy, you’d see evidence of Koch’s using it in other circumstances. Outside of these illiquid stocks, he said, Koch rarely traded at the end of the day and often traded in the middle of the month. Judge Millett countered that maybe “the fishing was best at the end of the quarter.” The record showed that Koch had tried, and failed, to buy these particular stocks at other times. She asked whether it was legal error not to treat this as a mixed-motive case. Freda responded that all the evidence pointed to the fact that Koch was trading at the end of the day to mark the close and that he did not raise any credible evidence to support his claim of a legitimate motive.
SEC’s market rules. On rebuttal, Gorman reiterated that a trader may wish to bid up over the market ask price in order to get a large block of stock. That is what the SEC National Market System rules accomplish, but he argued that if the result of this enforcement action stands, large mutual fund companies like Fidelity and Vanguard will be unable to bid up in order to obtain large blocks of shares, and instead will have to buy in lots of 100 or 200 shares. Judge Ginsburg asked whether, as a result, the firms will not trade in these shares. Gorman responded that either they won’t trade at all, or they will pass the costs along to their clients. This is why, he said, Rule 610 of Regulation NMS has brokers avoid displaying orders that cross the market (i.e., go over the market ask). The rule does not illegitimatize these orders, only prevents them from influencing the price.
The case is No. 14-1134.
The FINRA board of governors has announced its approval of proposed changes to its Communications With the Public rules as well as amendments to the Trading Activity Fee for firms with no customers that are engaged solely in proprietary trading activity for their own accounts. The proposals were discussed at the April 2015 board meeting.
Communications rules. In general, FINRA member firms' communications with the public must comply with FINRA Rule 2210. The rule requires certain standards for the content, approval, recordkeeping, and filing of communications with FINRA, and firms must generally comply with its requirements when communicating with the public, including communications with retail and institutional investors.
FINRA will ask for comment on proposed amendments that would eliminate certain filing requirements that it says present a low level of risk to investors. These include the filing requirements for generic investment company material and investment company shareholder reports. FINRA said the proposed changes would also seek to better align the requirements to the relative risks presented by specific types of sales material. The proposed rule changes to the Communications With the Public Rule set are the first changes to FINRA rules under a retrospective rule review program started last April to assess the rules’ effectiveness and efficiency.
Specifically, FINRA has authorized publication of a Regulatory Notice seeking comment on proposed changes to Rules 2210, 2213 (Requirements for the Use of Bond Mutual Fund Volatility Ratings) and 2214 (Requirements for the Use of Investment Analysis Tools).
Trading activity fee. The FINRA board has also authorized publication of a Regulatory Notice requesting comment on proposed amendments to the trading activity fee rules for firms with no customers that are engaged solely in proprietary trading activity for their own accounts. Specifically, the amendments would exclude from the fee those transactions executed on an exchange where the firm is a member, including non-market-maker trades, as long as the firm has no customers and trades only for its own account. According to FINRA’s news release, these proposed changes follow the SEC's recent proposal to eliminate the registration exemption for proprietary trading firms that are members of exchanges but not FINRA.
Nearly 40 years ago, the SEC obtained an order requiring Lockheed Aircraft Corporation to, among other undertakings, file a Form 8-K at least 10 days before revising its anti-corruption policies. Lockheed Martin Corporation, as the successor now bound by that order, is asking a district court to relieve it of that requirement. The SEC does not oppose the motion (SEC v. Lockheed Aircraft Corp., April 15, 2015).
Final judgment. The SEC filed bribery-related charges against Lockheed Aircraft in 1976. The company settled without admitting or denying the allegations and, as part of that settlement, consented to the requirement that it file advance notice of any changes to its anti-corruption policies and procedures.
Subsequent developments. Rules implementing the Sarbanes-Oxley Act now require public companies to either post their codes of ethics on their websites or include them as an exhibit to an annual report. Lockheed Martin elected to make its code of ethics and certain other policies, including its more specific anti-corruption policy, available on its website. The company’s motion points out that it is still bound by the 1976 judgment to file a Form 8-K before making any changes to its anti-corruption policies, even though its website disclosure complies with the SOX rule.
Lockheed is asking the district court to relieve it of that requirement under Federal Rule of Civil Procedure 60(b). Both requirements of the Supreme Court’s flexible Rufo v. Inmates of Suffolk County Jail (1992) standard are met, Lockheed avers, in that there have been significant changes in factual conditions and in the law, and the proposed modification is suitably tailored to those changes. The Internet is the major technological advancement that was not foreseen when the judgment was entered, and the SEC’s rule on public disclosure of codes of ethics permits website disclosure as an alternative to filing.
Relief requested. In these circumstances, Lockheed argues, the requirement to file a Form 8-K disclosing changes to the anti-corruption policies has been superseded by the recognition of corporate websites as an effective means for public disclosure. Lockheed also notes that the final judgment requires disclosure even of non-substantive changes that the SOX rule expressly exempts. For example, it was required to file a Form 8-K last year when the attorney who had previously been responsible for the anti-corruption policies retired.
Furthermore, the modifications that Lockheed is requesting are tailored to the changed circumstances. For one, the proposed modification would clarify that the policies and procedures at issue apply to payments prohibited by the Foreign Corrupt Practices Act, which was enacted after the final judgment was entered. Second, the changes would require Lockheed to disclose revisions to its code of ethics (which prohibits payments that violate the FCPA) in accordance with the SEC’s rules implementing SOX Section 406.
The case is No. 76-0611.
In recent remarks, SEC Commissioner Daniel M. Gallagher addressed the tenuous relationship between global and domestic regulation of the financial industry. He questioned the effects of mandates by the G-20 and the Financial Stability Board (FSB) on national sovereignty and economic freedom and suggested that efforts toward “regulatory harmonization” have moved from facilitating cooperation among regulators to imposing a “top-down, forcible imposition of one-size-fits-all regulatory standards on sovereign nations.” To be truly effective, the official explained, these entities and their members must refocus on regulatory equivalence and substituted compliance. “There is usually more than one way to achieve any given regulatory objective, and it’s not always clear which way is ‘best,’” he noted.
Instead of coordinating the efforts of national regulators, Gallagher continued, the FSB is coercing national authorities to implement its own policies, and “while such regulators may get some things right, they will most certainly get some things wrong—and, having coerced the world to do it all one way, it will go wrong everywhere.” Citing the Financial Stability Oversight Council’s quick following of FSB decisions and policies regarding designation of systemically important financial institutions and imposition of “bank-like” capital requirements on money market funds, the commissioner warned that hasty decisions of “unelected bureaucrats” could have a tremendous impact on the U.S. economy and ultimately be counter-productive.
Advocating a renewed focus on avoiding duplicative standards and overregulation, Gallagher urged regulators to find “common ground” with international counterparts and to acknowledge similarities and quality in regulatory goals and approaches across borders. By acknowledging that there is more than one way to achieve a goal, regulators can provide greater certainty to participants in cross-border transactions and encourage innovation in capital markets, the commissioner said.
In the U.S., he continued, lawmakers and regulators need to move away from the approach of “regulate first and ask questions later” The domestic capital markets are losing market share to other international financial centers, and this shift may, in fact be “self-inflicted,” Gallagher explained. Increasingly expensive compliance burdens and threats of litigation are likely driving financial business to other jurisdictions, particularly Middle Eastern and Asian markets with regulatory regimes intended to entice issuers and investors. The SEC and other financial regulators should focus less on “de-risking” markets and investments and more on eliminating barriers preventing access to capital markets, he concluded.
The Massachusetts Securities Division permanently adopted an emergency intrastate crowdfunding exemption permitting job growth by helping Massachusetts small and early-stage businesses find investors and gain greater access to capital with fewer restrictions.
Benefits. The exemption, available to Massachusetts-based corporations, LLPs, and LLCs, allows the issuers to: (1) offer both equity and debt securities on the Internet; and (2) raise up to $1 million if the issuer did not make available to the secretary of state and prospective investors its most recent fiscal year’s GAAP-prepared financial audit, or up to $2 million if the issuer did make available to the secretary of state and prospective investors its most recent fiscal year’s GAAP-prepared financial audit.
The exemption allows an investor to purchase an amount of securities not exceeding the greater of: (1) $2,000 or 5 percent of the investor’s annual income or net worth, whichever is greater, if both the annual income and net worth are less than $100,000; and (2) 10 percent of the investor’s annual income or net worth, whichever is greater, but not to exceed an amount sold of $100,000, if either the investor’s annual income or net worth is $100,000 or more.
Qualifications and disqualifications. Issuers, to be eligible for the exemption, must be Massachusetts-formed entities authorized to do business in the state whose principal place of business is in the state. Issuers must ensure that their transactions comply with Securities Act Sec. 3(a)(11) and SEC Rule 147.
Issuers whose officers, directors, or beneficial owners are subject to specified “bad boy” provisions, such as securities fraud or misrepresentation, are disqualified from the exemption. The exemption is also prohibited for blind pool and blank check offerings, investment companies, hedge funds, commodity pools, and oil, gas or mining exploration industries.
Securities may be offered and sold only to Massachusetts residents.
Commissions (or other remuneration) may not be paid to any person for soliciting prospective purchasers, unless the person is a Massachusetts-registered broker-dealer or agent.
File a prescribed notice with the secretary of state no later than 15 days after the first Massachusetts sale of a security under the exemption.
Disclose all material facts pertaining to the company and offering, along with the fact that the offering is not registered under federal or state law.
Set a minimum amount to be raised under the exemption.
Place all funds received from investors in an escrow account at a Massachusetts-authorized insured bank or depository institution. Investor funds must remain at this institution until the minimum offering amount is reached.
New York Attorney General Eric Schneiderman has announced that his office reached a settlement with a real estate developer for failing to register numerous real estate investments. The settlement was reached with 39 Lispenard Project, LLC and its former principal, architect Peter Moore, who were charged with failing to register syndications under the Martin Act. The AG's office found that Moore solicited and offered syndications in 39 Lispenard Project, LLC to members of the public without making the necessary filings. Under the Martin Act, syndications and the offer of condominium units require the filing of prospectuses, which must be provided to investors and purchasers before they decide to invest or buy a condominium unit (In the Matter of the Investigation of 39 Lispenard Project, LLC, AOD No. 15-050, April 12, 2015).
Background. According to the complaint, 39 Lispenard acted as an unregistered syndicator of securities with regard to two buildings in TriBeCa, New York, NY. 39 Lispenard acted as an unregistered sponsor of realty in the offering and sale of condominium units in those buildings without filing an offering plan as required under New York law. According to the office's press release, Moore blatantly procured investors in an unregistered syndication, hiring a prominent real estate firm in order to reach a wide audience. At the time, Moore swore that the building was vacant, but there were tenants who were slated to be evicted several months later; Moore was required to deliver a vacant building.
Sanctions. Moore agreed to a six-month bar from offering or selling securities in the New York, in addition to making the required syndication filings with the AG's office. Moore also agreed to conduct his business affairs legally in the future, and if he should violate any term of the settlement agreement, he will be barred from offering or selling securities permanently. Moore will also pay a fine of $50,000.
Schneiderman remarked that “promoters of real estate investments need to follow the rules and if they don’t, they will be held accountable." Moore, he said, will face "permanent consequences" if he fails to follow the Martin Act in the future.
The case is AOD No. 15-050.
Grocery retailer The Kroger Co. has informed the SEC that proponents of a shareholder proposal that would urge the company to purchase produce from growers that comply with the Fair Food Program have withdrawn the proposal.
Proposal. Kroger shareholders Glenmary Home Missioners and Mary H. DuPree (Proponents) submitted a shareholder proposal to be included in the company’s proxy for its 2015 annual meeting of shareholders that urged the board of directors to take the necessary steps to join the Fair Food Program. According to the proposal, Kroger’s current Vendor Code of Conduct is inadequate to protect the brand because it is based heavily on compliance with the law, and U.S. agricultural workers are excluded from many of the labor laws that apply to other U.S. workers. The proponents also cited Justice Department prosecutions of cases amounting to “modern-day slavery” in the U.S. agriculture industry.
According to the Proponents, the Fair Food Program is an internationally recognized program based on strict compliance with a human rights-based code of conduct that prevents forced labor of any type. Adopting the Fair Food Program’s code of conduct can help prevent violations of human rights in Kroger’s supply chain, which can lead public protests, a loss of consumer confidence, and a negative impact on shareholder value, the Proponents stated.
Withdrawal of proposal. In its letter to the SEC requesting that it be allowed to omit the proposal from its proxy, Kroger argued that the proposal sought to micromanage the company by enabling shareholders to dictate Kroger’s relationships with suppliers. As such, the proposal is excludable under Rule 14a-8(i)(7) because it infringes on the board’s and on management’s ability to control the day-to-day operations of the company, according to Kroger.
However, Calvert Investments, writing on behalf of the Proponents, sent a letter to Kroger indicating that they have agreed to withdraw the proposal. In the letter, Calvert cited “the positive steps the company is taking to improve the standards within the company,” including changes to Kroger’s Vendor Code of Conduct. The letter added that the Proponents look forward to working with Kroger to improve its supply chain audits, especially regarding social responsibility.
Kroger informed the Division of Corporate Finance of the Proponents’ withdrawal of their proposal. The Division acknowledged the withdrawal and stated it would have no further comment on the matter.
In an allegedly fraudulent stock sale, the plaintiff’s provision of consideration in the form of its own NASDAQ-listed securities was enough of a domestic nexus to overcome the Morrison hurdle, at least in the Ninth Circuit. The court dismissed, with leave to amend, the Exchange Act claims against the defendants for failure to sufficiently plead scienter or to plead fraud with particularity and offered to certify the case for interlocutory appeal, noting a potential circuit split on Morrison’s reach (Motorcar Parts of America, Inc. v. FAPL Holdings Inc., April 8, 2015, Wu, G.).
Background. Motorcar Parts of America, Inc. sued FAPL Holdings Inc. and four of FAPL’s principals for fraud based on the plaintiff’s purchase of capital stock of Fenwick Automotive Products Ltd. (Fenco) and its affiliate and subsidiaries. The plaintiff paid for the Fenco stock with shares of its own common stock, which are listed on NASDAQ.
Morrison argument. The defendants sought to dismiss the Exchange Act claims under an interpretation of the Supreme Court’s Morrison decision that would require, for the U.S. securities laws to apply, that the plaintiff establish that the transaction occurred on a domestic exchange, that title to the security was transferred in the United States, or that irrevocable liability was incurred in the United States. The plaintiff did not attempt to argue either of those scenarios, rather, emphasizing the listing of its own stock on NASDAQ.
Ordinarily, starting from a blank slate, the court would find it a stretch to characterize the transaction at issue as the purchase or sale of the plaintiff’s stock. The language of the purchase agreement leading to all of the plaintiff’s claims defined FAPL as the vendor and the plaintiff as the purchaser, and the transaction was described in terms of the transfer of Fenco shares. But the court explained that the case law directs courts to look at the substance of transactions rather than to their form in determining whether a purchase or sale has occurred.
The defendants also reasoned that if the U.S. securities laws were to apply here, American companies could submit any transaction, anywhere in the world, to the U.S. securities laws by having part of the consideration consist of their domestic stock. But the court estimated that the Supreme Court would likely consider this issue one best left to Congress—especially given that Morrison was “a rumination on Congressional silence” on extraterritoriality of the securities laws.
Second Circuit decisions. Several Second Circuit decisions construing Morrison more narrowly lent credence to the defendants’ argument, but the court ultimately determined that the Morrison test as enunciated reaches “transactions in securities listed on domestic exchanges,” a criterion satisfied in this case. The Ninth Circuit is not bound by the Second Circuit precedent, and none of those circuit’s decisions involved similar facts. Finding that Morrison did not bar the Exchange Act claim, but acknowledging that the outcome may have been different had the case arisen in the Second Circuit, the court expressed a willingness to certify the case for interlocutory appeal.
Dismissal with leave to amend. In the end, the court granted the defendants’ motion to dismiss, but on the basis that the plaintiff failed sufficiently to plead scienter or to plead fraud with particularity. The plaintiff was allowed leave to amend both the Section 10(b) claim and the Section 20(a) claim.
The case is No. 2:14-cv-01153-GW-JEM.
BATS Exclusive Listing Plan on to Something, or Just Batty?
Newly installed BATS CEO Chris Concannon said this week he is ready to push for a rule change that would let BATS keep thinly-traded stocks off the company’s exchange. The “BATS Exclusive Listing Proposal” (as Concannon calls it) would apply to illiquid stocks that have their primary listing on another U.S. exchange. Taking this approach, he said, would “concentrate” liquidity for these stocks on just one exchange.
Concannon said BATS plans to submit a rule change proposal to the SEC later this month seeking the agency’s blessing to move ahead with exclusive listings for some stocks. He said the rule may help to de-fragment trading volumes for these stocks. The rule will define what an illiquid stock is, but Concannon said BATS will not press for a trade-at rule. Still, the proposal will need to be examined carefully to see how it would “graduate” stocks that become more liquid from a single to a multiple-exchange environment.
According to Concannon, the forthcoming proposal is in line with BATS’s prior efforts to change how exchanges deal with access fees and rebates. He cast BATS as a “problem solver” within its industry, although he reiterated that the exclusive listings proposal would only “help” fix existing problems.
BATS announced the appointment of Concannon to the CEO post in February. He takes over for Joe Ratterman, who will succeed Paul Atkins as Chairman of BATS’s board of directors.
Victims of the Stanford Ponzi scheme lost their appeal seeking to compel Pershing, L.L.C., to submit to FINRA arbitration of their claims against the clearing broker. The investors’ lack of any contractual relationship with Pershing precluded the application of two estoppel-based exceptions to the general rule that Pershing could not be compelled to arbitrate (Pershing, L.L.C. v. Bevis, April 8, 2015, per curiam).
Background and relationship among parties. After the collapse of the Stanford Ponzi scheme, a group of 100 investors initiated an arbitration proceeding against Pershing before FINRA, alleging that Pershing played a material role in defrauding them. Of the 100, 84 investors had used Pershing’s services in the course of purchasing CDs from Stanford Group Company and had signed client and margin agreements with Pershing, which contained arbitration provisions. Because Pershing directly contracted with these investors, it did not challenge their right to arbitrate. However, it secured an injunction preventing the remaining 16 investors (the “Bevis Investors”) from asserting claims in FINRA arbitration on the basis that it had no contractual relationship with them and they could not establish a relationship through any estoppel theory.
Compelling arbitration. Absent an exception, the general rule that a party cannot be compelled to arbitrate unless it agreed to would hold. The investors argued that two theories of equitable estoppel—alternative and direct-benefit estoppel—acted as such exceptions. But the court rejected both theories as applied to the facts.
Alternative estoppel. Alternative estoppel permits a nonsignatory to an arbitration agreement to compel a signatory to arbitrate a claim in two situations: first, where the signatory has asserted a contractual claim against a nonsignatory and then refused to honor an arbitration provision contained in that contract, and second, where the signatory asserts a claim of “substantially interdependent and concerted misconduct” by the nonsignatory and another signatory. Neither of these situations was germane. Pershing explicitly disclaimed any contractual relationship with the investors and did not bring any contract-based claims against them, nor had it raised allegations of interdependent and concerted misconduct between the investors and a contract signatory.
Direct-benefit estoppel. The second estoppel argument would hold if the investors could establish that they are party to a contract containing an arbitration clause which Pershing “embraced,” even though it was a non-signatory. Pershing executed an agreement to provide clearing services to the Stanford Group Company between 2005 and 2009, but had no relationship with any other Stanford entity. Even if the court were to assume that the investors could pierce the corporate veil to establish their own contractual relationship with Stanford Group Company, and therefore establish that they were party to a contract containing a FINRA arbitration clause, the direct-benefit estoppel argument would still fail because Pershing neither knowingly exploited nor directly benefited from that contract.
The case is No. 14-30525.
D-W Investments LLC, a multi-generational single-family office providing services to the family and descendants of Myron A. Wick, Jr., has requested an SEC order declaring it to be a person not within the intent of the Investment Advisers Act to the extent that it cannot satisfy all of the conditions to be a “family office” as defined in Rule 202(a)(11)(G)-1 under the Act. The application notes that, other than the provision of services to the sister of a spouse of a lineal descendant and her membership interest, the office complies with the conditions of the “family office” rule. Moreover, the application states, the additional client has long been treated as an immediate member of the Wick family and has been receiving advisory services from the office for many years (In re D-W Investments LLC, File No. 803-00226, March 30, 2015).
The “family office” rule provides three general conditions for exclusion from the definition of “investment adviser” and regulation under the Advisers Act: (1) each of the persons served by the office must be a “family client” and the office must have no investment advisory clients other than the family clients; (2) the office must be owned and controlled by “family members” and/or “family entities” as described in the rule; and (3) the office must not hold itself out to the public as an investment adviser.
Absent relief, the application explained, the office would be required to register under Advisers Act Sec. 203(a), even though it does not hold itself out to the public as an investment adviser or market non-public offerings to any person or entity other than family clients. Adding the sister-in-law as a family client will not change the nature of the office into that of a commercial advisory firm and there is no public interest to be served by requiring the office to register, according to the application, because the office will not offer its services to anyone other than the “extended” Wick Family.
Citing previous SEC orders exempting similar family arrangements, the office requests an exception in the form of a Commission order declaring it not to be a person within the intent of the Advisers Act.
The application is No. 803-00226.
The SEC made a prima facie showing that partnership interests sold by a San Diego company represented a sale of unregistered securities in violation of Securities Act Section 5, but did not meet its burden on a motion for summary judgment to show that the sales did not qualify for a Regulation D exemption (SEC v. Schooler, April 3, 2015, Curiel, G.).
Background. The SEC first targeted Western Financial Planning Corporation (Western) and Louis Schooler in September 2012 for allegedly running a real estate investment fraud. The agency obtained an asset freeze and accused the company of selling unregistered securities in the form of units of ownership in partnerships that were organized to buy undeveloped land in Nevada. The partnerships paid exorbitant prices for the land and failed to disclose to investors that much of the land was encumbered by mortgages that Western used to finance the purchase of the land, the SEC said. “Comps” used by the company to demonstrate the value of the land to investors were in no way comparable, and Schooler paid off investors who discovered the scam in order to allow it to continue. The scheme attracted $153 million in investments from approximately 3,400 investors. This opinion addressed the SEC’s motion for summary judgment and disgorgement; earlier opinions in the case were issued on July 1, 2013, April 25, 2014, and July 30, 2014.
Regulation D. Using SEC v. Murphy, a Ninth Circuit case from 1980, as a guide, the court pointed out that the SEC had made out a prima facie case under Section 5 because it established the offer or sale of an unregistered security through interstate commerce. But since the SEC was moving for summary judgment and the defendant argued that the unregistered sales qualified for an exemption under Regulation D Rule 506(b), it was the SEC’s burden to show that the exemption did not apply.
The court initially held that although Western had sold 86 general partnership units in 23 different properties, the sales represented a single, integrated offering. With regard to the Regulation D limit of 35 investors, excluding accredited investors, the court found that the SEC had not carried its burden of showing that more than 35 of the 3,400 total investors counted against the Rule 506(b) purchaser limit because the SEC provided no evidence showing the net worth of any of the investors. The SEC also failed to show that the company had not provided the financial information required in a Regulation D offering because of the same lack of evidence regarding accredited investors. This requirement does not apply to accredited investors, the court pointed out, and the SEC did not establish the number of accredited investors.
General solicitation. Although the SEC cited evidence to show that Western engaged in general solicitation of the general partnership units, the court found that the evidence did not demonstrate sufficiently that the units were generally solicited or advertised. Statements by Schooler regarding cold calls and phone lists did not show that the partnership interests were sold in this manner. Schooler said he obtained clients this way, but this method is allowed under the SEC’s position in a 1985 no-action letter issued to E.F. Hutton & Co. Western additionally argued that any cold calls made were done by a separate entity separate from Western, and the SEC did not show that the agent was acting on Western’s behalf. Other evidence offered by the SEC was also not sufficient to establish a general solicitation.
The case is No. 3:12-cv-2164-GPC-JMA.
Wolters Kluwer Senior Writer/Analyst Jay Fishman has authored a new white paper: Second Wave of States Address Crowdfunding. Although the SEC has yet to adopt the federal crowdfunding rules mandated by the JOBS Act, an increasing number of states have now proposed or adopted their own intra-state crowdfunding exemptions. Jay's white paper examines the second wave of jurisdictions—the District of Columbia, Idaho, Indiana, Massachusetts, New Mexico, Oregon and Pennsylvania—that have taken the lead to achieve the JOBS Act’s goals of creating jobs and facilitating small business capital formation.
Lawyers for Amedisys, Inc. recently asked the Supreme Court to once again take up the issue of loss causation in order to fix a burgeoning circuit split that prompted the Fifth Circuit to revive a securities class suit that had been tossed by the district judge because the plaintiffs failed to plead loss causation. The company said this is an “ideal” case for the justices to revisit the Court’s Dura opinion in the context of FRCP 9(b). Amedisys said the federal appeals courts are just as divided on this point as they were over the issues in the Amgen and Halliburton I cases, both of which the Court decided (Amedisys, Inc. v. Public Employees’ Retirement System of Mississippi, March 30, 2015).
According to Amedysis’s petition, the specific question is this: Does FRCP 9(b) require particularized pleading of loss causation? The plaintiffs, a group of public pension funds, had sued Amedisys for allegedly misleading investors by omitting details about a Medicare billing scheme from the company’s SEC filings and other public statements. The lower courts both applied FRCP 8(a)’s lower hurdle, but the district judge ended up dismissing the case, while the Fifth Circuit brought it back to life.
Amedisys’s petition to the Supreme Court emphasized how it believes the Fifth Circuit’s whole-greater-than-the-parts theory got it wrong. For one, the company said the Fifth Circuit’s opinion left too much to the imagination regarding the “when” of the corrective disclosures there. The five-year class period and the 25-month duration of the alleged series of corrective disclosures could make it more likely that other factors pushed Amedisys’s stock price down.
Amedisys also said that imposing FRCP 9(b)’s heightened pleading requirement would help to give companies better notice of the loss causation allegations to which they must respond in securities class suits. Amedisys said the vagaries inherent in FRCP 8(a)’s lower plausibility standard hinder its ability to prepare a defense. Moreover, Amedisys said a decision on whether loss causation requires plausible or particularized pleading would be “outcome-determinative” because, at least in the company’s view, the complaint here would fail under the tougher standard used by the Fourth and Ninth Circuits.
The case is No. 14-1200.
The CFTC charged Kraft Foods Group and its former affiliate Mondelēz Global with manipulating and attempting to manipulate the price of cash wheat and wheat futures. In a move approved by senior management, Kraft allegedly bought $90 million of wheat futures—about six months’ supply—without intending to take delivery, correctly calculating that this would depress cash wheat prices and increase wheat futures prices. The strategy allegedly earned Kraft over $5.4 million in profits (CFTC v. Kraft Foods Group, Inc., April 1, 2015).
The complaint also alleges that Kraft violated speculative position limits and conducted non-competitive, off-exchange futures trades.
“A market participant who is not happy with cash prices available to it may not resort to manipulative trading strategies in an attempt to artificially lower that price,” said CFTC Director of Enforcement Aitan Goelman in a statement.
In an SEC filing on the same day, Kraft disclosed that the CFTC had filed a complaint against it, but said the allegations involve the business now owned and operated by Mondelēz, which was spun off in 2012. An agreement between Kraft and Mondelēz provides that the latter will predominantly bear any costs and penalties, so Kraft does not expect the case to have a material adverse effect on its financial condition, operations or business.
Manipulative conduct. According to the complaint, Kraft uses about 30 million bushels of wheat per year in products like Oreo cookies and Triscuit crackers. Kraft is one of the largest domestic end users of #2 Soft Red Winter Wheat, the variety of wheat deliverable against the CBOT wheat futures contract.
Cash wheat prices were high in the late summer of 2011, and Kraft allegedly used a manipulative strategy to depress them. In October of that year, wheat procurement staff suggested to senior management that Kraft should buy $90 million of December 2011 wheat futures in early December 2011. Kraft did not have a bona fide commercial need for this massive amount of wheat, and did not intend to take delivery of it. The expectation was that the futures market would react to Kraft’s enormous long position by increasing the price of the December 2011 futures contract while reducing the differential between the December futures price and the price of the cash market wheat.
Management approved the strategy, and staff then executed the strategy. According to the CFTC, Kraft’s actions caused cash wheat prices in Toledo to decline and the December 2011/March 2012 wheat futures spread to narrow, which was favorable to Kraft. As a result, Kraft earned over $5.4 million in profits.
Position limits violations. A CFTC regulation on position limits restricts wheat futures positions to 600 contracts in the spot month, 5,000 contracts for any single contract month, or 6,500 contracts for all months combined. CBOT has the same levels. Hedge exemptions are available upon application, but Kraft had not renewed its one-year exemption, and also did not have a bona fide exemption. Kraft and Mondelēz held long positions in December 2011 wheat that exceeded the CBOT’s 600-contract speculative spot month position limit by as much as 2,110 contracts, said the CFTC.
Fictitious trades. According to the CFTC, Kraft conducted an off-exchange transaction between two Kraft accounts carrying long and short positions for its wheat futures, in which Kraft’s short position was offset by its long position. These transactions were cleared as EFP or “exchange for physical” transactions, in which futures are exchanged for the physical commodity. EFPs are allowed only if they are between independent parties and are conducted and cleared on-exchange, and must be documented.
Kraft did not actually transfer physical wheat in connection with any of the EFP transactions, and also did not create any of the required documentation. Therefore, the EFPs were impermissible and Kraft violated Section 4c(a) and Regulation 1.38(a), the CFTC argued.
Sanctions requested. The CFTC asked the district court to enter an order of permanent injunction and impose a civil monetary penalty and disgorgement.
The case is No. 15-2881.
The Delaware Senate this week unanimously approved a bill that seeks to avoid the constitutional infirmities in the state’s previous program for the confidential arbitration of disputes between businesses. By a vote of 21-0, the state Senate on March 31 approved the Delaware Rapid Arbitration Act (H.B. 49), which aims to give Delaware business entities greater capacity to resolve business disputes in an efficient manner through voluntary arbitration under strict timelines. The bill now heads to Governor Jack Markell for his signature, after previously having passed the Delaware House by a vote of 36-1 on March 19.
The proposed legislation comes in response to a Third Circuit ruling in October 2013 which held that the public had a First Amendment right of access to the state-sponsored business arbitrations established under a program of the Delaware Chancery Court. The Delaware Coalition for Open Government had sued the Chancery Court, individual chancellors, and the state, arguing that the public’s right of access to arbitrations conducted by state judges in state courthouses was violated by the confidentiality requirements of the law and implementing rules. Although five chancellors petitioned the U.S. Supreme Court for review, arguing along with business groups that removing confidentiality would effectively destroy arbitration’s viability as a dispute resolution method, the Supreme Court declined to grant certiorari in March 2014.
Swift resolution of business disputes. Sponsored by Rep. Melanie Smith, H.B. 49 is intended to provide an additional option for sophisticated entities to swiftly resolve their business disputes through arbitration. The bill expressly states that nothing in the Act is intended to impair the ability of business entities to use other voluntary arbitration procedures. Businesses are thus free to opt for arbitration procedures that may allow lengthier proceedings or permit more extensive discovery.
The bill requires arbitrators to issue a final award within the time fixed by the agreement or, if not fixed by the agreement, within 120 days. The parties may extend the time for the final award by unanimous consent in writing, but the extension may not exceed 60 days. The Act also imposes financial penalties on arbitrators who fail to decide disputes within the time frames specified by the statute.
Role of the Delaware courts. The bill attempts to step around the constitutional issues concerning public access by carefully circumscribing the role of the Delaware courts. Although the Chancery Court has the authority to appoint an arbitrator in the event that the parties fail to do so, or the arbitrator chosen is unable or unwilling to serve, judges themselves do not act as arbitrators under the Act. While the Chancery Court may enter relief in aid of arbitration until the arbitrator is appointed, determinations regarding the scope of the arbitration are left exclusively to the arbitrator. The State of Delaware serves as the seat of the arbitration, but arbitrators may hold hearings within or without Delaware or the United States.
Challenges to final awards may be made only to the Delaware Supreme Court, unless the parties have either agreed to have them heard by an appellate arbitral panel or have waived them altogether. If a challenge to a final award is taken to the Delaware Supreme Court, the proceedings will be public and limited to review under the standards of the Federal Arbitration Act.
The Delaware Supreme Court does not have jurisdiction, however, to hear appeals concerning the appointment of an arbitrator; the determination of an arbitrator’s fees; the issuance or denial of an injunction in aid of arbitration; or the grant or denial of an order enforcing a subpoena. A party to any agreement under the Act will be deemed to have waived the right to such appeals.
Warning that different derivatives regulatory regimes between the U.S. and Europe have fractured liquidity in swaps markets, the International Swaps and Derivatives Association (ISDA) recommended that certain CFTC rules be revised to allow greater flexibility in the execution of swap trades. Specifically, the CFTC should revisit its “made available to trade” process that determines which swaps must be traded on-exchange, and ease restrictions on trade execution methods including executing trades by phone. The CFTC should also reconsider imposing SRO obligations on swap execution facilities (SEFs).
“ISDA and its members believe that targeted regulatory corrections in the US can improve the utilization of SEFs and enhance the likelihood of coordination with European transaction rules currently under development,” said Scott O’Malia, the current head of ISDA and a former CFTC commissioner.
ISDA cautioned that failure to reconcile rule sets between the U.S. and Europe could broaden market fragmentation and lead to intractable negotiations over which rule set should prevail. This will become even more challenging as Asian regulators begin to implement their own swap execution rules. For example, Japan’s execution and exchange registration rules are set to take effect this September.
Swap execution requirements. Following the 2008 financial crisis, the G-20 agreed on a number of objectives to reform over-the-counter derivatives markets. The accord required that all standardized derivatives contracts should be traded on exchanges or electronic trading platforms, where appropriate. After the Dodd-Frank Act, the CFTC adopted rules to implement this trade execution mandate. In Europe, the European Securities and Markets Authority (ESMA) is working on rules to implement the revised Markets in Financial Instruments Directive (MIFID II).
Under CFTC rules that took effect in October 2013, electronic venues that provide access to U.S. persons must register with the CFTC. In February 2014, the agency provided no-action relief allowing U.S. entities to continue trading on European multilateral trading facilities (MTFs) that had not registered as SEFs with the CFTC — as long as the European trading platforms met CFTC requirements. However, European venues found the requirements too onerous, so this workaround did not gain traction, said ISDA.
In addition, the CFTC implemented the trade execution mandate using a process called “made available to trade.” In this process, called the “MAT determination,” a designated contract market (DCM) or SEF can certify that a specific swap contract is available to trade. If the CFTC certifies the MAT determination, then that swap may no longer be traded bilaterally and must be traded on a DCM or SEF in the future. In theory, this should lead to a gradual migration of standardized derivatives trades from over-the-counter execution onto regulated derivatives exchanges. The first derivatives products were mandated under this process in February 2014 for certain interest rate products submitted by Javelin SEF. Rules regarding the trade execution mandate are not yet in place outside the U.S.
Fragmented markets. According to ISDA, as a result of these differing regimes between the U.S. and Europe, a clear split in liquidity has emerged. For example, in the euro interest rate swaps (IRS) market, the percentage of euro IRS transactions traded between European entities increased from 71% in September 2013, when the SEF rules went into effect, to 85% of transactions in December 2014.
Recommended revision of CFTC rules. In a paper called “Path Forward for Centralized Execution of Swaps,” ISDA called on the CFTC to make “regulatory adjustments.” First, the CFTC should make the MAT determinations itself, as ESMA plans to do, rather than leaving it up to self-certifications by SEFs. This would eliminate the competitive motivation for one SEF to force other SEFs to list a given product as a mandatory traded swap. Second, the MAT determination should be based on objective liquidity criteria — global minimum volumes of daily trading over a significant period of time for each swap, to be periodically re-evaluated.
In addition, said ISDA, the CFTC should eliminate unnecessary restrictions on swap execution mechanisms to bring CFTC rules closer to the contemplated ESMA regime. In particular, the CFTC should not force transactions to be traded by order book or minimum “request for quote” method, which may not be possible for certain swaps and could lead to artificially wide spreads. Regarding package trades, which consist of a combination of swaps that are subject to the execution mandate and swaps that are not, the CFTC should clarify that for a package trade to qualify as a block trade, only the MAT swap component needs to meet the block trade requirement. Also, the whole package transaction should be subject to a time delay.
Other recommendations included simplifying SEF confirmation requirements for non-cleared swaps traded on a SEF and reconsidering SEF financial resource and market monitoring requirements. SEFs should be allowed to include more assets in the financial resources calculation and should not be required to monitor other markets for manipulation, said ISDA.
A shareholder proposal, which requests that the management of Caterpillar Inc. review its policies related to human rights to assess areas in which the company may need to adopt and implement additional policies, and report its findings, may not be excluded from the company's proxy materials under Rule 14a-8(i)(10). Division of Corporation Finance staff disagreed that the company had substantially implemented the proposal. Caterpillar also could not exclude the proposal under Rule 14a-8(i)(11) because the staff said the proposal did not substantially duplicate a proposal submitted by Mercy Investment Services, Inc.
The heavy equipment manufacturer received the proxy proposal from the National Center for Public Policy in December of last year. The organization requested that it be included in Caterpillar’s proxy material for the 2015 annual meeting.
Caterpillar argued that it had addressed the proposal’s “essential objectives” because a board committee is expected in the near future to review company policies related to human rights and consider whether amendments are necessary. The staff responded that the company’s policies “do not compare favorably with the guidelines of the proposal” and could not be considered substantially implemented. Caterpillar’s assertion that it intended to include a substantially duplicate proposal from Mercy Investment Services, Inc. and Jewish Voice for Peace was also dismissed by the staff.

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