Securities Mosaic® Blogwatch
October 24, 2014
ISS Proposes Equity Plan Scorecards
by Carol Bowie

Editor's Note: Carol Bowie is Head of Americas Research at Institutional Shareholder Services Inc. (ISS). This post relates to draft policy changes to the ISS Equity Plan Scorecard issued by ISS on October 15, 2014.

As issues around cost transparency and best practices in equity-based compensation have evolved in recent years, ISS proposes updates to its Equity Plans policy in order to provide for a more nuanced consideration of equity plan proposals. As an alternative to applying a series of standalone tests (focused on cost and certain egregious practices) to determine when a proposal warrants an "Against" recommendation, the proposed approach will incorporate a model that takes into account multiple factors, both positive and negative, related to plan features and historical grant practices.

Feedback from clients and corporate issuers in recent years, beginning with the 2011-2012 ISS policy cycle, indicates strong support for the proposed approach, which incorporates the following key goals:

  • Consider a range of factors, positive and negative, to determine vote recommendations.
  • Select factors based on (1) feedback from clients and other market constituents, (2) recognition of a growing body of best practices in equity compensation, and (3) internal analysis of correlations with TSR performance and plan proposal vote results.
  • Establish burn-rate and Equity Plan Scorecard ("EPSC") factor weightings in keeping with company size (based on three market index groups).
  • Ensure that plans associated with certain highly negative features (e.g., ability to reprice stock options without shareholder approval) or practices (pay-for-performance disconnects driven by excessive equity grants) will receive a negative recommendation.

Key Changes under Consideration

ISS proposes to use a "scorecard" model that considers a range of positive and negative factors, rather than a series of "pass/fail" tests as applied in the existing policy, to evaluate equity incentive plan proposals. A company's total EPSC score will generally determine whether a "For" or "Against" recommendation is warranted.

Key features of the proposed EPSC include the following:

  • (i) Scorecard factors evaluated will fall under three main categories:
    • 1) Plan Cost: The total potential cost of the company's equity plans relative to industry/market cap peers, measured by the company's estimated Shareholder Value Transfer (SVT) in relation to peers. SVT will be calculated for both (a) new shares requested plus shares remaining for future grants, plus outstanding unvested/unexercised grants, and (b) only on new shares requested plus shares remaining for future grants.
    • 2) Plan Features:
      • Automatic single-triggered award vesting upon a CIC;
      • Discretionary vesting authority;
      • Liberal share recycling on various award types; and
      • Minimum vesting period for grants made under the plan.
    • 3) Grant Practices:
      • The company's three-year burn rate relative to its industry/market cap peers;
      • Vesting requirements in most recent CEO equity grants;
      • The estimated duration of the plan based on the sum of shares remaining available and the new shares requested, divided by the average annual shares granted in the prior three years;
      • The proportion of the CEO's most recent equity grants/awards subject to performance conditions;
      • Whether the company maintains a claw-back policy; and
      • Whether the company has established post exercise/vesting share-holding requirements.
  • (ii) Scorecard factors and weightings will be keyed to company size and status: S&P 500, Russell 3000 (excludes S&P500), Non-Russell 3000, and Recent IPOs or Bankruptcy Emergent companies.
  • (iii) The dual cost measurement approach would eliminate ISS' option overhang carve-out policy.
  • (iv) "Liberal share recycling" provisions will be evaluated as a plan feature rather than incorporated in SVT calculations.
  • (v) Burn rate benchmarks will be calibrated for respective index groups: (a) S&P500, (b) Russell 3000 (excluding S&P500), and (c) Non-Russell 3000; the relevant GICS industry classification will be used within each index group.
  • (vi) The company's burn rate will be considered as part of the Scorecard evaluation, based on a range relative to its peers; this will eliminate any potential for commitments from companies to adhere to specific future burn rate caps (i.e., will eliminate "burn rate commitments").

Intent and Impact

The proposed EPSC policy on equity plan proposals introduces a more nuanced approach around traditional cost evaluation by considering a range of plan features and grant practices that reflect growing investor awareness of aspects such as performance-conditioned awards, risk-mitigating mechanisms, and reasonable plan duration. While some highly egregious features will continue to result in negative recommendations regardless of other factors (e.g., authority to reprice options without seeking shareholder approval), EPSC recommendations will largely be based on a combination of factors related to (1) cost, (2) plan features, and (3) grant practices. For example, a plan where cost is nominally higher than a company's allowable cap may receive a favorable recommendation if sufficient positive factors are present. Conversely, a plan where cost is nominally lower than the allowable cap may ultimately receive a negative recommendation if a preponderance of scorecard factors is negative.

The proposed policy is not designed to increase or decrease the number of companies that would receive adverse vote recommendations. While ISS has historically recommended against approximately 30 percent of equity plan proposals each year under existing policy (ranging from 30 percent to 42 percent during the period from 2005 to 2013), the vast majority of plan proposals receive the requisite number of votes to pass. In the aftermath of the 2008-2009 financial "meltdown," no more than nine equity plan proposals have failed to garner majority support each year (2010 through 2013), compared with 22 failed plans in 2005. With the strong market recovery, investors may be more critical of equity transfers to management, especially in the absence of shareholder friendly plan features and grant practices. A scorecard approach will enable evaluation of equity plan proposals in consideration of a range of best practices.

Request for Comment

While we appreciate any comments on this topic, ISS seeks specific feedback on the following issues.

  • Are there certain factors outlined above in our proposed scorecard approach that should be more heavily weighted when evaluating equity plan proposals? Please specify and explain.
  • Do you see any unintended consequences from shifting to a scorecard approach? If yes, please specify.

To submit a comment, please send via email to Please indicate your name and organization for attribution. While ISS will consider all feedback that it receives, comments will not be published without attribution.

All comments received will be published as received, unless otherwise requested in the body of the email submission.

ISS expects to release the final 2015 policy on or around November 7, 2014.

October 24, 2014
Shareholder Returns of Hostile Takeover Targets
by Sabastian V. Niles

Editor's Note: Sabastian V. Niles is counsel in the Corporate Department at Wachtell, Lipton, Rosen & Katz, where he focuses on rapid response shareholder activism, takeover defense and corporate governance. This post is based on a Wachtell Lipton firm memorandum by Mr. Niles and Eric S. Robinson.

This morning [October 22, 2014], Institutional Shareholder Services (ISS) issued a note to clients entitled "The IRR of 'No'." The note argues that shareholders of companies that have resisted hostile takeover bids all the way through a proxy fight at a shareholder meeting have incurred "profoundly negative" returns following those shareholder meetings, compared to alternative investments. ISS identified seven cases in the last five years where bidders have pursued a combined takeover bid and proxy fight through a target shareholder meeting, and measured the mean and median total shareholder returns from the dates of the contested shareholder meeting through October 20, 2014, compared to target shareholders having sold at the closing price the day before the contested meeting and reinvesting in the S&P 500 index or a peer group.

A close look at the ISS report shows that it has at least two critical methodological and analytical flaws that completely undermine its conclusions:

  • ISS's analysis refers to Terra Industries as one of the seven cases in the last five years where a target had resisted a hostile bid through a shareholder vote on a bidder's nominees, but the analysis then excludes Terra from its data analysis, by limiting it to targets that ultimately remained standalone. Terra is one of the great success stories of companies that have staunchly resisted inadequate hostile takeover bids, even after the bidder succeeded in electing three nominees to its board, and ultimately achieved an outstanding result for shareholders. As ISS notes, if the pre-tax cash proceeds of the final cash-and-stock offer for Terra had been reinvested in shares of the bidder, Terra shareholders would have seen a total return of 271% from the date of the initial shareholder meeting through October 20, 2014, significantly beating the S&P 500 Index and the median of peers by 181 and 211 percentage points, respectively. Had ISS properly included Terra in its analysis of "The IRR of 'No'", the mean return of the seven companies would have beaten the S&P index by 18.4 percentage points (compared to a shortfall of 8.7 percentage points when Terra was excluded) and beaten the ISS peer groups by 10.0 percent (compared to a shortfall of 23.6 percentage points excluding Terra).
  • Of the seven cases discussed in the analysis, one was a micro-cap company with a market cap of $250 million (Pulse Electronics) and one was a nano-cap company with a market cap of $36 million (Onvia). The other five companies, including Terra, had market caps between approximately $2 billion - $8 billion, yet ISS treats them all equally. A market-cap weighted analysis would have had dramatically different results. Excluding the micro-cap and nano-cap companies from the analysis, the mean and median returns for the five companies (including Terra) exceeded the S&P Index by 65.4 percentage points and 1.4 percentage points, respectively, and exceeded the respective peer groups by 57.6 percentage points and 20.8 percentage points, respectively.

More broadly, the real world of corporate takeover practice demonstrates that prudent use of structural protections and "defensive" strategies provides boards - and shareholders - with the benefits of substantial negotiating leverage and enhanced opportunity to demonstrate that the company's stand-alone strategy can deliver superior value.

October 24, 2014
Latham & Watkins discusses Trends in Master Limited Partnership M&A
by William N. Finnegan IV

In the first half of 2014, master limited partnership (MLP) mergers and acquisitions (M&A) transactions represented approximately 25 percent of all US oil and gas industry M&A activity. MLP transactions in the midstream and upstream subsectors have dominated the MLP M&A market. By value, the vast majority of these deals (88 percent) consisted of public companies acquiring private targets. Following the trend from last year, entity-level (as opposed to asset-level) M&A transactions have been the primary form of MLP M&A activity so far this year. From this year's transactions, we have identified four trends worth exploring.

1. The Kinder Morgan Consolidation

While later-stage MLPs can present some difficulties for public unitholders - as incentive distribution rights (IDRs) can drain off significant cash flow and constrain growth - the Kinder Morgan consolidation provides an interesting solution: the C-Corp general partner combines with its MLP subsidiaries. Although Kinder Morgan's particular situation may be unique, the transaction creates one possible "blueprint" for a successful exit strategy for mature MLPs that are paying distributions well into the "high splits." This transaction also could set the stage for Kinder Morgan to begin aggressively acquiring other MLPs.

2. New Asset Classes and MLP Diversification

Several transactions reflect a growing interest in operational diversification and entry into asset classes that are relatively new for MLPs. While the Internal Revenue Service is currently on "pause" in issuing Private Letter Rulings that may be required in certain circumstances, there has been an uptick in M&A involving fluid and solid waste handling, frac sand operations and other oilfield services-related businesses.

3. Purchases of MLP General Partners

Several transactions in the first half of 2014 indicate that acquirers may find an MLP's general partner to be an attractive target. General partner-level transactions offer acquirers several possible strategic benefits, including:

Growing general partner/IDR cash distributions as MLPs grow
Significant tax benefits
Ability to acquire multiple MLPs in diversified sectors
No or limited capital contribution requirements
Ability to control MLP and its growth strategy

4. Sponsor Support of MLPs Through Drop-Down Transactions

Several transactions highlight sponsors' ongoing interest in generating higher distributions by the MLP through drop-down transactions. In these transactions the sponsor sells an asset to its controlled MLP, which often accesses the capital markets to fund the transaction, using the debt and equity offering proceeds to pay the parent. These types of transactions offer several possible strategic benefits:

Provide cash flow growth for the MLP, fueling higher distributions
Allow for separation of non-core assets from sponsor's core business
Retention of aligned interests between sponsor and MLP post-drop-down


As the MLP structure continues to mature, MLP M&A activity has branched out into a number of highly tailored deal structures and relatively new asset classes. Consistent with the trends we have observed in the first half of 2014, we expect sponsors and management teams will increasingly seek out creative solutions for achieving growth and diversification in the MLP sector.

The full and original memorandum was published by Latham & Watkins LLP and is available here.

October 24, 2014
D&O Insurance: Contractual Liability Exclusion Precludes Coverage for Negligent Misrepresentation Claims
by Kevin LaCroix

In an October 20, 201 opinion (here), Middle District of Florida Judge Roy B. Dalton, Jr., applying Florida law, entered summary judgment for a D&O insurer, holding that the insurer was not liable for the stipulated judgment its insured had entered because the policy's broad contractual liability exclusion precluded coverage for the underlying claims of negligence and misrepresentation that had been asserted against the insured.


Land Resources LLC (LRC) was a land development company that eventually went bankrupt. James Robert Ward was an executive of LRC. In connection with certain land development projects in Georgia, Tennessee and North Carolina, two bond companies issued subdivision bonds on behalf of LRC to guarantee the completion of the projects. As part of the bond issuance, Ward and LRC executed a General Agreement of Indemnity (GAI) under which they indemnified the bond companies for liabilities and costs the bond insurers incur in relation to the bonds.

LRC defaulted on the bonds and the bond issuers sued Ward alleging that he was liable for the bond issuers' losses. The bond issuers alleged that Ward had caused LRC to default by negligent acts errors and omissions (the negligence claim) and had induced the bond issuers to issue to bonds by negligently failing to disclose LRC's financial condition to the bond issuers (the misrepresentation claim). The bond issuers' initial complaint also included a claim against Ward for indemnification under the GAI, but the bond issuers' amended complaint omitted the indemnification claim.

Ward submitted the lawsuit to LRC's D&O insurer. The D&O insurer denied coverage for the claim under the policy's contractual liability exclusion. Ward entered into a settlement of the underlying lawsuit whereby he agreed to a stipulated judgment of $40 million and assigned his rights under the policy to the bond issuers. The bond issuers then sued the insurer seeking to recover the amount of the judgment. The D&O insurer moved for summary judgment, arguing that there was no coverage under its policy for the bond issuers' claims against Ward.

Exclusion 4(h) of the policy provided that the insurer "shall not be liable to make any payment for Loss in connection with a Claim made against an Insured... alleging, arising out of, based upon or attributable to any actual or alleged contractual liability of the Company or any other insured under any express contract or agreement."

The October 20 Opinion

In moving for summary judgment, the insurer argued that Exclusion 4(h) precluded coverage for the claims against Ward because the losses claimed in the underlying action arose out of Ward's and LRC's breaches of their contractual obligations under the GAI and the bonds. The bond issuers argued that the defendants' arguments take construction of the Policy "to a tortured extreme, arguing that the mere utterance of the word 'bond' or 'contract' by Plaintiffs in this action sucks the claim in the protective ambit of the exclusion" and ignores the "legal legitimacy of Plaintiffs' tort claim which stand independently of any contractual liability."

Judge Dalton agreed with the insurer, saying that "this court finds that the phrase 'arising out of' as used in Exclusion 4(h) is unambiguously broad and preclude coverage for purported tort claims that depend on 'the existence of actual or alleged contractual liability' of an insured 'under any express contract or agreement.'"

He added that the insurer had introduced evidence that the "purported negligent misrepresentation claim" in the underlying lawsuit "depended on (and was not merely incidental to) Ward's and LRC's contractual liability under the GAI, the Bonds and the various developmental agreements." He also noted that the bond issuers conceded that their tort claim arose out of defaults on the Bonds, their losses arose from the contractual liability of Ward and that they would have suffered no losses had Ward performed his obligations. He also found that the bond issuers' argument that "there never would have been any contracts" were it not for Ward's negligent misrepresentations "finds no support in the cited deposition testimony and interrogatory responses."

Although he did not need to reach the issue, he went on to rule that even if there were coverage under the policy, the insurer would be entitled to summary judgment because the settlement of the underlying lawsuit (which took the form of a so-called Coblentz agreement between the claimant and the insured and involved the insured's assignment of policy rights) "was reached by collusion or an absence of effort to minimize liability." He noted a "plethora of evidence indicating that enforcement of the Coblentz agreement in this case would be contrary to Florida law."

In reaching this conclusion about the settlement agreement, Judge Dalton noted, among other things that Ward obtained benefits "beyond the mere conclusion of the Underlying Action"; that Ward had not "endeavored to minimize the amount of the judgment" (and noting that Ward had settled with two bond issuers for relatively nominal amounts); and that Ward had defenses to the underlying action.


I suspect that many readers will find the outcome of this case surprising, as claims of negligence and negligent misrepresentation are the very sorts of claims for which policies of this type are purchased. But as I noted in a prior post discussing an earlier decision in which another court held that the contractual liability exclusion precluded coverage for a negligent misrepresentation claim, the outcome of the coverage analysis is attributable to the sweeping breadth of the exclusion's omnibus preamble. In the prior case as in this case, the courts held that coverage was precluded because of the breadth of the "based upon, arising out of" language.

The disconcerting thing about this application of the exclusion is that it implies that the exclusion could preclude coverage for any claim in which any sort of a transaction is involved. The trouble is that many of not most D&O claims involve some sort of a transaction that includes some sort of a contract or agreement or understanding. If the "based upon, arising out of language" sweeps as broadly as Judge Dalton's opinion seems to imply, the exclusion potentially could block the coverage for which the policy was intended.

One remedy for the potential over-breadth of the exclusion would be to substitute the word "for" in lieu of the "based upon, arising out of language." However, many carriers will insist on using the broad preamble for the contractual liability exclusion and will refuse the narrower "for" language. Given the extent of the preclusive effect that courts have found in interpreting contractual liability exclusions with broad omnibus preambles, policy forms using the narrower "for" wording are, in this respect, superior from the policyholder's perspective, particularly if carriers whose policies have the broader wording try to apply the exclusion to preclude a broad range of types of claims.

As I suggested in my earlier post, I think the "for" wording is more consistent with the purposes for including a contractual liability exclusion in a D&O policy. An exclusion with the "for" wording makes it clear that insurers do not intent to pick up the insured company's contractual liability, without extending the exclusion's preclusive effect to a broad range of tort claims alleging different types of wrongful misconduct.

From my days as a coverage attorney on the insurance company side, I retain a basic dislike for the kind of settlement Ward entered with the bond insurers. These kind of deals always felt like an attempt to try to set up the insurer. Just the same, I found Judge Dalton's conclusion that the settlement agreement here was collusive a little unexpected, and not just because he didn't need to reach the issue. While I see his point about the $40 million amount of the stipulated judgment, the rest of his reasoning to me seems off the mark.

The insurance company had denied coverage, Ward had to look out for his own interests as best he could, no thanks to the insurer. What obligation did he have to try to negotiate a better deal for the benefit of the insurer? What possible expectation could the insurer have in that in reaching a settlement he should have to "minimize" the amount of the settlement or try to assert defenses he may have? Why shouldn't he be able to extract as many benefits out of the settlement as he could? The amount of the settlement arguably may support a conclusion that the settlement was conclusive, but I am not as persuaded by the other grounds on which Judge Dalton relied support his conclusion that the settlement was collusive.

An earlier post in which I set out a broader overview of the contractual liability exclusion can be found here.

October 24, 2014
This Week In Securities Litigation (Week ending October 23, 2014)
by Tom Gorman

Rengan Rajaratnam settled his insider trading case with the SEC this week, consenting to the entry of a permanent injunction and agreeing to pay disgorgement, prejudgment interest, a civil penalty and to be barred from the industry with a right to reapply after five years. The settlement follows Mr. Rajaratnam's victory in the criminal insider trading action brought against him.

SEC enforcement this week brought two new administrative proceedings. Once centered on an offering fraud while the other focused on a breach of duty.


Rulemaking: The SEC, along with the Board of Governors of the Federal Reserve, the Department of Housing and Urban Development, the FDIC, FHFA and the Office of the Comptroller announced the adoption of rules implementing risk retention requirements regarding securitizations under the Dodd-Frank Act (here).

SEC Enforcement - Filed and Settled Actions

Statistics: This week the SEC filed 0 civil injunctive action and 2 administrative proceedings, excluding 12j and tag-along-actions.

Insider trading: SEC v. Rajaratnam, Civil Action No. 13 cv 1894 (S.D.N.Y.) is a previously filed action against Rengan Rajaratnam, the brother of Galleon hedge fund founder, Raji Rajaratnam. The action centered on insider trading claims involving 15 companies and nearly $100 million in illicit trading gains. The action was resolved this week when Mr. Rajaratnam consented to the entry of a permanent injunction prohibiting future violations of Exchange Act Section 10(b). In addition, he agreed to pay disgorgement of $372,264.42, prejudgment interest and a penalty equal to the amount of the disgorgement. He also agreed to be barred from the securities business with a right to apply for reentry after five years. Previously, Mr. Rajaratnam prevailed in the criminal insider trading case brought against him, handing the Manhattan U.S. Attorney's Office its only insider trading loss in this group of cases.

Financial fraud: SEC v. Subaye, Inc., Civil Action No. 13 Civ. 3114 (S.D.N.Y.) is a previously filed action against the company and James Crane who served as its CFO. The complaint alleged that the company, which claimed to be a PRC based cloud computing enterprise, was in fact little more than a shell. Mr. Crane, a former auditor barred by the PCAOB, signed a series of false filings made with the Commission. This week the Court entered a permanent injunction by consent prohibiting future violations of Exchange Act Sections 10(b), 13(a), 13(b)(2)(A), 13(b)(2)(B) and Section 105 of the Sarbanes Oxley Act. In addition, the order bars Mr. Crane from serving as an officer or director of a public company for ten years and requires him to pay a penalty of $150,000. See Lit. Rel. No. 23116 (October 21, 2014).

Offering fraud: In the Matter of Anthony Coronti, Adm. Proc. File No. 3-161203 (October 17, 29014). Respondent Coronti controls, Bidtoask LLC, also named as a Respondent in the proceeding. He claims to be the chairman and CEO of Corsac Inc., an investment adviser to a fund. From 2008 through 2011 Mr. Coronati offered investors units in a fund which supposedly invested in U. S. equity securities. Eleven investors purchased units. There was no fund, according to the Order. When the money ran out, Mr. Coronati moved on. In another iteration of the scheme, Mr. Coronati offered investors shares in a fund at a price of $5 per share. This time investors were told that the funds would be invested a fund that would conduct an IPO in the third quarter of 2012. Again, when the investor funds were drained, Mr. Coronati move on. In early 2012 Mr. Coronati began soliciting investors to purchase shares in a fund that held pre-IPO Facebook shares. This investment was offered through Bidtoask. Approximately $1.75 million was raised from 44 investors. This time the investment was made and the proceeds were distributed to investors, minus sums misappropriated by Mr. Coronti.

Finally, for about one year, beginning in mid-2013, Respondents offered investments in two privately-owned technology companies. One was going to conduct an IPO investors were told. Rather than invest the funds as represented however, Respondents misappropriated the money. The Order alleges violations of Securities Act Section 17(a), Exchange Act Section 10(b) and Advisers Act Sections 206(1), 206(2) and 206(4). Respondents resolved the proceeding, each consenting to the entry of a cease and desist order based on the Sections cited in the Order. Mr. Cononati was also barred from the securities business and will pay disgorgement of $292,646.36, prejudgment interest and a civil penalty of $100,000. A fair fund will be created for investors.

Misappropriation: SEC v. Wright, Civil Action No. 1:14-cv-01896 (M.D. Pa.) is a previously filed action against registered representative Dennis Wright. The complaint alleged that Mr. Wright induced 28 customers to redeem securities held in their accounts that were then reinvested in what was supposed to be accounts with a higher yield. Instead of reinvesting the money, Mr. Wright misappropriated it. Now the Court has entered a final judgment by consent, prohibiting Mr. Wright from engaging in future violations of Securities Act Section 17(a) and Exchange Act Section 10(b). In addition, he was ordered to pay disgorgement of $1,533,416.33 and prejudgment interest which will be deemed satisfied by the entry of an order of restitution in a parallel criminal case. See Lit. Rel. No. 23115 (October 17, 2014).

Breach of duty: In the Matter of Clean Energy Capital, LLC, Adm. Proc. File No. 3-15766 (October 17, 2014) is a proceeding which names the previously registered adviser and its co-founder, Scott Brittenham, as Respondents. The Order alleges violations of Securities Act Section 17(a)(2) and Advisers Act Sections 206(2) and 207. CEC marketed 19 separate private equity funds to investors using Ethanol Capital Partners, L.P. Each fund was marketed as a separate series, labeled by a letter such as Fund A. Respondent also marketed the Tennessee Ethanol Partners, L.P. Collectively the 20 CEP Funds raised $64 million from hundreds of investors. The Order alleges a series of violations including the misallocation of expenses which included Mr. Bittenham's salary, creating an undisclosed conflict; unauthorized borrowings and undisclosed principal transactions; misstatements in connection with a sale to one investors; the improper comingling of cash belonging to the Funds and improper compliance procedures. The Respondents resolved the action and entered into a series of undertakings. Those included the retention of an independent consultant whose recommendations will be adopted. In addition, each Respondent consented to the entry of a cease and desist order based on the Sections cited in the Order, to a censure and to pay disgorgement of $1,918,157.00 along with prejudgment interest. Respondents will also pay a penalty of $225,000. Portions of the disgorgement will be returned to certain Funds.

Criminal cases

Investment fund fraud: U.S. v. Elmas, No. 1:14-cr-00358 (E.D. Va.). Ismail Elmas, a FINRA registered investment adviser, at one time was employed as an investment adviser with Apple Financial Services, an affiliate of Apple Federal Credit Union. He defrauded 10 investors out of $1 million. The scheme centered on soliciting largely senior citizens and widows for investments. Mr. Elmas owned a bank account in the name of I.E. Financial Solutions. Over a two year period beginning in 2012, he raised over $1 million from investors. In some instances Mr. Elmas induced investors to deposit their funds with I. E. Financial without telling them that it was actually his bank account. In other instances the bank account was described as an investment vehicle such as a certificate of deposit or a real estate investment trust. Other clients just transferred their funds to I.E. Financial. Regardless of the mechanism used, Mr. Elmas misappropriate the funds. Overall 10 investors were defrauded. He pleaded guilty to one count of wire fraud.

Mr. Elmas is scheduled to be sentenced on January 16, 2015.

Hong Kong

Improper conduct: The Securities and Futures Commission suspended Ho Siu Po, a registered representative of DBS Vickers Ltd., for seven months. The suspension is based on his disregard of firm policies which included operating accounts on a discretionary basis and accepting cash from a client, both of which are prohibited.

MOU: The SFC entered into a memorandum of understanding with the China Securities Regulatory Commission. It calls for cooperation regarding enforcement, the sharing of information and data, establishes a process for joint investigations and ensures that enforcement actions in both jurisdictions operate to protect the investing public.

October 24, 2014
In the News: Criticism of Buybacks
by Broc Romanek

There has been a flurry of articles this year criticizing the zany pace of buybacks including:

– Financial Times' "Buybacks: Money well spent?"
– Financial Times' "The short-sighted US buyback boom"
– Financial Times' "Capital Group raps activists for pushing share buybacks"
– WSJ's "BlackRock's Fink Sounds the Alert"
– Financial Times' "Shareholder activism: Battle for the boardroom"
– Institutional Investors' "Share Buybacks Slow as Scrutiny Rises"
– Economist's "The Repurchase Revolution"
– DealBook's "The Truth Hidden by IBM's Buybacks"

More on "Corp Fin Comment Letters: Insiders Selling Ahead of Their Public Availability?"

Last month, I blogged about a study that found an abnormal level of selling by insiders in the days before Corp Fin comment letters that contained revenue recognition comments were made public. After my blog, Gretchen Morgenson wrote this NY Times column touting the study.

Personally, I continue to doubt the credibility of the study - and here is some of the community feedback that I have received:

- Must be nice to be an academic. One of the dumbest studies I have ever heard of. I can only imagine it's just happenstance.

– From the poorly written article, it did not seem like much of a bombshell, but the reporter lost all credibility in my eyes when he said repeatedly that "companies" are required to issue and publish comment letters. Is there any profession that has fallen more than business reporting in intelligence, sophistication and plain old effort (would not have been hard to get this right)? Maybe if I read the actual study, I would be more alarmed.

– Wow! That's INSANE! At first I thought this had to be anomalous but after glancing at the report, maybe not! My second thought is that maybe management puts too much emphasis on the correlation to long term stock price depression and SEC Comments. Honestly not sure what to make of this (except for the fact that the author got the comment letter process wrong!).

Cybersecurity: Verizon Data Breach Investigations Report

With cybersecurity the hot topic - I have held two webcasts on the topic over the past month - it is worth taking a look at this 60-page Verizon Data Breach Investigations Report that was released last month. The Verizon report contains a host of useful information as it relies on over 63,000 incidents from 50 organizations for it's analysis. Also check out our checklists related to incident response planning, disclosure practices and risk management - as well as a chart of state laws related to security breaches.

Meanwhile, Kevin LaCroix blogs that a closely watched cybersecurity derivative suit against against Wyndham Worldwide Corporation's board has been dismissed.

– Broc Romanek

October 24, 2014
The Recommendations of the SEC's Investment Advisory Committee
by J Robert Brown Jr.

The SEC's Investor Advisory Committee met in the first half of October and made two recommendations. The link to the IAC's page was on the home page of the SEC's site but has since been removed from that prominent location. But the site can be found here.  

One recommendation concerned the definition of accredited investor. The SEC was instructed in Dodd-Frank to study the definition to determine appropriate reforms. The definition for individuals focuses on income and net worth but contains thresholds that have not changed since 1982. The definition does not screen for actual sophistication (based upon education or experience).

The other recommendation concerned the impartiality of brokers in the proxy process with respect to the disclosure of interim voting data. Brokers are obligated to forward materials to beneficial owners, including voting instructions. Brokers (and their agent, Broadridge) are exempt from the proxy rules for forwarding the materials as long as the task is undertaken in an impartial fashion. The practice has arisen, however, whereby voting data is collected and, on an interim basis, sometimes given to only one side in a contest over a matter submitted to shareholders. The recommendation calls for the application of the concept of impartiality to the disclosure of interim voting information. 

October 23, 2014
The Coming Global Prohibition On Securitization
by David Zaring

Okay, the headline was made to draw in the reader. Non-banks will be allowed to securitize to their heart's content, and banks will likely basically continue to do the same. However, the Basel Committee orchestrated a meeting in Tianjin between central bankers (they do monetary policy) and bank supervisors (they do safety and soundness),and came up with, among other standards, an approach to the ability of banks to hold collateralized debt obligations, the sort of obligations that have been blamed for the financial crisis.

I will quote the report made from the meeting, though that's pretty dull and bureaucratic. However:

  • the freedom of banks to hold derivatives is being set in these informal international meetings among bureaucrats, a fact always worth repeating
  • the limits on bank holdings of securitized assets is being set through a negotiated, and global, process involving bank regulators and capital market regulators
  • some people, the US very much not included, would see no reason to consult those who set monetary policy, or what the currency is worth, on the appropriate way to limit the power of banks to hold derivatives, or whether derivatives would fail to protect a bank in crisis times
  • the supervisors and central bankers met in Tianjin, which means that some of them hopefully took the world's fastest train from Beijing's airport to Beijing's port city.

It's all very global and committee of regulators oriented. Anyway, here's the report on securitization assets held by banks:

The Committee also reviewed progress towards finalising revisions to the Basel framework's securitisation standard and agreed the remaining significant policy details that will be published by year-end. It also recognised work that is being conducted jointly by the Basel Committee and the International Organization of Securities Commissions (IOSCO) to review securitisation markets. The Committee looks forward to the development of criteria that could help identify - and assist the financial industry's development of - simple and transparent securitisation structures. In 2015, the Committee will consider how to incorporate the criteria, once finalised, into the securitisation capital framework.

View today's posts

10/24/2014 posts

HLS Forum on Corporate Governance and Financial Regulation: ISS Proposes Equity Plan Scorecards
HLS Forum on Corporate Governance and Financial Regulation: Shareholder Returns of Hostile Takeover Targets
CLS Blue Sky Blog: Latham & Watkins discusses Trends in Master Limited Partnership M&A
The D&O Diary: D&O Insurance: Contractual Liability Exclusion Precludes Coverage for Negligent Misrepresentation Claims
SEC Actions Blog: This Week In Securities Litigation (Week ending October 23, 2014) Blog: In the News: Criticism of Buybacks
Race to the Bottom: The Recommendations of the SEC's Investment Advisory Committee
Conglomerate: The Coming Global Prohibition On Securitization

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