Securities Mosaic® Blogwatch
October 22, 2014
Dorsey discusses Survival of Non-Binding LOI Provisions
by John Marsalek

On September 30, 2014, the Delaware Supreme Court reversed a jury verdict finding that ev3, Inc. breached its contractual obligation to the shareholders of Appriva Medical, Inc., a company purchased by ev3. In ev3, Inc. v Lesh, No. 515m 2013, the Delaware Supreme Court ruled that an integration clause in a definitive merger agreement that provided for survival of a previously signed letter of intent did not transform the non-binding provisions of the LOI into binding provisions. The case was remanded to the Delaware Superior Court for further proceedings consistent with the Delaware Supreme Court's opinion.

Post-Merger Milestone Payments

The case involved the purchase of Appriva by ev3 pursuant to a merger agreement. The merger agreement provided for a closing payment of $50 million and four contingent payments of up to an aggregate amount of $175 million based on the achievement of four future performance milestones. Shortly following the closing of the acquisition of Appriva, ev3 made the determination that Appriva's technology did not hold the promise that ev3 once thought it had, so ev3 stopped funding its development. The shareholder representatives sued ev3 once it became clear that the milestones would not be achieved and, thus, the four contingent payments would not be paid to Appriva's former shareholders.

Key Contractual Provisions

In addition to the milestone payment provisions, the merger agreement contained two provisions of particular relevance to the dispute. First, Section 9.6 provided that "notwithstanding any other provision in the Agreement to the contrary," ev3's obligation to fund Appriva following the closing, including to pursue the achievement of any of the milestones, would be at ev3's sole discretion to be exercised in good faith. Second, the integration clause of the merger agreement provided that the merger agreement contained the entire understanding among the parties and superseded all other agreements or understandings among the parties except for the LOI, which contained a clause that ev3 would commit to funding Appriva to ensure that there would be sufficient capital to achieve the performance milestones (the "LOI Funding Provision"). However, as is fairly typical, the LOI contained a provision stating that certain of its provisions were binding (i.e., exclusivity and confidentiality) and all other provisions, including the LOI Funding Provision, were not binding.

Survival Does Not Transform

The Delaware Supreme Court found that the Superior Court erred in allowing Appriva to argue that the LOI Funding Provision was binding on the parties because the integration clause did not convert the non-binding LOI Funding Provision into a binding contractual provision. Put another way, the integration clause simply allowed the binding provisions of the LOI to survive and continue in effect, but the non-binding provisions of the LOI remained non-binding even if those non-binding provisions were integrated into the merger agreement. In the Supreme Court's words, "survival is not transformational."

Moreover, the Supreme Court also found that the opening words of Section 9.6, i.e., "notwithstanding any other provision in the Agreement to the contrary," rendered any contrary provision ineffective. Since Section 9.6 made clear that ev3 had sole discretion as to whether to provide funding to Appriva following closing subject only to its duty to act in good faith, it was contrary to the LOI Funding Provision. So even if the LOI Funding Provision had been included in the parties' agreement as a binding obligation, Section 9.6 would have trumped the LOI Funding Provision. As such, the LOI Funding Provision was not binding either as an independent covenant or as a limitation on ev3's sole discretion in Section 9.6.

Practice Pointers

The first lesson from this decision is that integrating a non-binding provision from a letter of intent will not make that non-binding provision binding in the acquisition agreement. In other words, Appriva should have included a provision like the LOI Funding Provision in the merger agreement. As it turns out, the negotiation history of the ev3-Appriva transaction included an attempt by Appriva to include a binding obligation in the merger agreement that would have committed ev3 to a specific funding schedule, but that attempt was resisted by ev3, and Appriva ultimately relented. The Delaware Supreme Court specifically noted that it was an error on the part of the Superior Court to allow Appriva to use the LOI Funding Provision as evidence of a binding promise, but to deny ev3 the opportunity to refute the argument with the transaction's negotiation history. Thus, the second lesson from this decision is that if sellers desire specific actions to be taken by the buyer following the closing to help achieve performance milestones so the sellers have the opportunity to receive a post-closing payment, such actions should be reflected in the acquisition agreement in the form of express post-closing covenants by the buyer.

The full and original memorandum was published by Dorsey & Whitney LLP on October 7, 2014, and is available here.

October 22, 2014
Barclays Libor-Scandal Securities Suit Survives Renewed Dismissal Motion
by Kevin LaCroix

The Libor-scandal based securities suit filed against Barclays and certain of its directors and offices will now be going forward. The case was initially dismissed, but on appeal the Second Circuit vacated a part of the dismissal ruling and returned the case to the district court for further proceedings. The defendants filed a renewed motion to dismiss. In an October 21, 2014 order (here), Judge Shira Schindlin denied the defendants' motion, holding that the plaintiffs' allegations of scienter were sufficient to meet the pleading requirements. The lawsuit, filed on behalf of investors who purchased Barclays American Depositary Receipts (ADR) in the United States, will now proceed.


On June 27, 2012, Barclays announced that it had entered settlements with regulators in the United States and the United Kingdom relating to the Libor-manipulation scandal. Barclays agreed to pay fines totaling more than $450 million and admitted for the first time that between August 2007 and January 2009 the bank had in its Libor submissions underreported the interest rates it was paying.

As discussed in greater detail here, on July 10, 2012, Barclays shareholders filed a securities class action lawsuit in the Southern District of New York, against Barclays PLC and two related Barclays entities, as well as the company's former CEO, Robert Diamond; and its former Chairman Marcus Agius. (Former Group Chief Executive John S. Varley was added as a defendant later). The complaint, which can be found here, was filed on behalf of class of persons who purchased Barclays ADRs between July 10, 2007 and June 27, 2012.

The plaintiffs' complaint alleges that the bank willfully misrepresented the bank's borrowing costs between 2007 and 2009 and knowingly submitted false information for purposes of calculating Libor. The plaintiffs allege that by underreporting the bank's interest rates, the bank misrepresented the bank's financial condition. The plaintiffs also allege that the defendants misleadingly stated that the company had established adequate internal controls. (For a detailed background regarding the Libor rate setting process and the allegations regarding Libor's alleged manipulation refer here.) The defendants moved to dismiss the complaint.

In a May 13, 2013 opinion (discussed here), Judge Scheindlin granted the defendants' motion to dismiss. The plaintiffs appealed. As discussed here, in an April 25, 2014 decision, the Second Circuit affirmed the dismissal ruling in connection with the allegedly misleading statements regarding the bank's internal controls. However, with respect to the remaining allegations concerning the alleged underreporting of the bank's borrowing costs, the appellate court vacated the district court's dismissal based on her finding that the plaintiffs had not adequately pled loss causation. The appellate court said "While expressing no view on the ultimate merits of plaintiffs' theory of loss causation, we hold that the court below reached these conclusions prematurely." On remand to the district court, the defendants filed a renewed motion to dismiss.

The October 21 Order

In her October 21 order, Judge Scheindlin denied the defendant's motion to dismiss, holding that the plaintiffs had adequately pled scienter as to Barclays and as to Diamond, and had adequately pled control person liability allegations as to Agius and Varley.

In concluding that the plaintiffs had adequately pled scienter as to the Barclays entities, Judge Scheindlin examined the plaintiffs' allegations that Barclays submitted inaccurate Dollar Libor figures that underreported the bank's borrowing costs. The plaintiffs also allege these inaccurate submissions were made at the direction of senior management. The plaintiffs' allegations regarding the Libor submissions drew heavily on the factual recitals in the documents prepared in connection with the regulatory settlements.

Judge Scheindlin said that "Barclays's repeated, long-term and knowing submission of false rates suggest far more than an intent to violate [British Banking Authority] rules. Rather the conduct constitutes strong circumstantial evidence of conscious misbehavior or recklessness."(Citations omitted). The complaint's allegations "are sufficient to give rise to a strong inference that the danger was either known to Barclays or so obvious that Barclays must have been aware of it." (Citations omitted). She added that the complaint "also plausibly alleges Barclays's motive - to counter negative perceptions about its borrowing costs and, more generally, its financial condition."

Taken together, Judge Scheindlin said, the allegations, "give rise to a cogent and compelling inference that Barclays falsified the LIBOR submissions because it understood their likely effect on the market." She rejected the innocent motive that the defendants sought to suggest - that is, that Barclays was merely attempting to correct a misrepresentation in the market about Barclays's financial health. She said that the inference of scienter is "cogent and at least as compelling as the competing inference of innocent intent suggested by Defendants."

Judge Scheindlin also found that the plaintiffs' scienter allegations against Diamond were sufficient. The plaintiffs alleged that in October 2008, following a conversation with a Bank of England official, Diamond had ordered another executive to understate LIBOR submissions so that Barclays would not be an outlier on its reported interest rates among the rate setting banks. The plaintiffs also sought to rely on statements Diamond had made in an October 31, 2008 conference call with analysts about Barclays borrowing rates.

In concluding that the allegations regarding the instructions to the other executive to understate the bank's LIBOR submissions met the Second Circuit's "motive and opportunity" test for pleading scienter, Judge Scheidlin said that "the complaint's allegations, including its historical context, provide a clear motive; the fact that Barclays made false LIBOR submissions following Diamond's instructions evince opportunity." With respect to the statements in the analyst conference call, Judge Scheindlin noted that Diamond's conversation with the Bank of England and instructions to the bank executive took place just two days before the conference call and his instructions to the bank executive, which she said is "inconsistent with the truth of either of the statements" Diamond allegedly made in the conference call on which the plaintiffs seek to rely." The "inconsistency, together with the conduct alleged, creates a cogent and compelling inference that - at the very least - Diamond acted recklessly."

With respect to the control person liability allegations against Agius and Varley, Judge Scheindlin noted that "while merely identifying the title of a corporate officer is insufficient to state a claim," the Complaint "describes sustained and long-running misconduct that was known to management, including high-ranking corporate officers." These allegations, Judge Scheindlin were sufficient to state a claim against Agius and Varley for control person liability.


Of the many different financial institutions caught up in the Libor scandal, Barclays is the only one that is involved in a Libor-scandal related securities class action lawsuit - most of the other banks involved in the scandal do not have securities that trade on the U.S. exchanges, and of the banks that have securities trading in the U.S, Barclays is the only one to be hit with a securities suit. (As noted here, one Libor-scandal claimant, the Charles Schwab Corporation, has filed an individual action in California state court seeking to recover damages from the Libor rate-setting banks on a number of theories, including under Section 11 of the '33 Act.)

When this case was dismissed at the outset, it looked as if Barclays was going to be able to avoid any potential liability under the U.S. securities laws for alleged misrepresentations concerning its Libor submissions. However, when the Second Circuit reversed a portion of the dismissal ruling, it meant that the case was returning to the district court for further proceedings. In light of Judge Scheindlin's latest order, the case will now be going forward as to all of the defendants.

The Libor-related litigation generally, including the consolidated Antitrust litigation pending in the Southern District of New York, has had many twists and turns, and this case is no exception. Discovery in this case will now go forward. For securities litigation plaintiffs, the name of the game is to get past the dismissal motions stage with at least some portion of the case intact, which the plaintiffs here have accomplished. While the next procedural stage is discovery, the likely direction of the case undoubtedly reflect the fact that securities cases almost always settle, a fact on which the plaintiffs undoubtedly will be pushing as the case goes forward.

This case is not the only securities suit that Barclays is facing in the Southern District of New York. As discussed here, in July, Barclays was also named as a defendant in a securities class action lawsuit arising out of the bank's "dark pool" private securities trading venue. Barclays is also one of the many defendants named in the "Flash Boys" high frequency trading securities class action lawsuit, as discussed here.

Russian Drivers: I am sure many readers saw the terrible story about the plane crash in Russia in which Total SA's Chief Executive Officer Christophe de Margerie was killed, along with three of the plane's crew members. According to news reports, the crash occurred after the business jet in which de Margerie was traveling struck a snow plow on a runway. The driver of the snow plow reportedly was drunk - apparently along with the airport's dispatchers, according to a detailed account on Fortune magazine's website.

October 22, 2014
Posted: Archive Video from the "Usable Proxy Workshop"
by Broc Romanek

Last month, I co-hosted a "Usable Proxy Workshop" with Addison in NYC for a group of in-house folks. The panels were video-taped (thanks to the host of our location, Simpson Thacher!) - and I have now posted those video archives in our "Usable Disclosure" Practice Area. So you can check out those panels (which include speakers from the companies leading the charge for more usable disclosure, such as GE, Coca-Cola, Pru, Western Union, etc.), as well as the related course materials at your leisure.

The panel topics include:

– "What Investors Really Want to See In Your Proxy"
– "Information Design 101: Beyond Fonts & Colors"
– "Bold Thinking in the Digital Age"
– "Video as a Disclosure Tool"
– "How to Use Customized Graphics to Enhance Your Message"
– "How to Best Work With Design Firms"

Checklist: How to Best Work With Design Firms

Recently, I posted this checklist about to work with design firms that specialize in usable proxies. The checklist is filled with practice pointers from three in-house folks that have led the way making their proxy statements more usable. In addition, I just posted these two other related checklists:

Annual Meetings - Dedicated Web Pages
- Annual Review Videos

Online Proxies: The Use of Tiles-Based Navigation

Recently, I received an email from Rich Andrews of EZOnlineDocuments reminding me of the growing use of "tiles" for online proxies to facilitate navigation in a growing mobile world. Tiles is a big boost to usability because if you open a PDF on a tablet or smart phone, there is no option to full-text search, etc. Probably the best way to explain "tiles" is to just show you. Here are examples from this year:

Xcel Energy
Otter Tail

– Broc Romanek

October 22, 2014
Delaware and the Myopic Nature of a "Neutral" Board: In re KKR Financial Holdings
by J Robert Brown Jr.

The business judgment rule represents an over-inclusive protection designed to protect risk taking by directors.  Board know that even if they take risks that prove in hindsight to be mistaken and harmful, they will escape liability. The presumption is not, however, designed to protect decisions arguably motivated by a conflict of interest.  The judicial erosion of fiduciary duties by the Delaware courts was on display in In re KKR Financial Holdings.   

In that case, KKR formed KKR Financial Corp., a Maryland real estate investment trust.  The "primary asset [of KFN] was a portfolio of subordinated notes in collateralized loan transactions that financed the leveraged buyout activities of KKR." The duties of KKR Financial were ultimately assumed by KFN. KFN in turn assigned the day to day management duties to KKR Financial Advisors LLC.  KKR, however, owned less than 1% of the shares of KFN.  Moreover, the operating agreement for KFN provided that "the business and affairs of [KFN] shall be managed by or under the direction of its Board of Directors."  The board of KFN contained 12 directors, two of whom were described as "high-level KKR employees".    

Ultimately, KKR sought to purchase KFN.  The board formed a "transaction committee" After back and forth negotiations, the committee recommended approval of the merger.  The board met and, with the two "high level KKR employees" excluded, voted to approve the merger.   

Plaintiffs challenged the transaction and argued that KKR "controlled" KFN.  As a result, the applicable standard of review should be entire fairness.  In rejecting that assertion, the court had this to say:  

  • In my opinion, the allegations of the complaint do not support a reasonable inference that KKR was a controlling stockholder of KFN within the meaning of this Court's precedents. Although these allegations demonstrate that KKR, through its affiliate, managed the day-to-day operations of KFN, they do not support a reasonable inference that KKR controlled the KFN board - which is the operative question under Delaware law - such that the directors of KFN could not freely exercise their judgment in determining whether or not to approve and recommend to the stockholders a merger with KKR.

The analysis was no surprise.  While REITS are typically dependent upon their advisor, KFN carefully preserved the legal authority of the board to oversee the activities of the advisor.  Moreover, with less than 1% of the shares, KKR did not have the ability to legally control the board.

What the court ignored, however, was the presence of a potential conflict of interest within the board room.  The board of KFN excluded from approval of the merger the two KKR employees.  Nonetheless, the court noted that, based upon plaintiff's allegations, it was "reasonably conceivable that two other directors... would not be found independent of KKR."  One had "longstanding ties to KKR and, among other things, served as a Senior Advisor to KKR and as Chairman of KKR affiliate... at the time of the merger."  The other was the dean of a business school "which recently received a $100 million donation from KKR co-founder Kravis, an alumnus." 

The court went on to determine whether a majority of the board lacked independence and concluded that it did not.  As the court determined:  "I conclude that plaintiffs have failed to allege facts that support a reasonable inference that eight of the twelve KFN directors, constituting eight of the ten who voted on the transaction, were not independent from KKR. Thus, plaintiffs have failed to rebut the presumption that the business judgment rule applies to the KFN board's decision to approve the merger."

In other words, as has been discussed before (see Returning Fairness to Executive Compensation) the Delaware courts have created the fiction that boards with a majority of independent directors essentially expunge the taint of any conflict that arises from the presence of directors who are interested or lacking in independence.  Having expunged the taint, the applicable standard becomes the all but impenetrable duty of care and the business judgment rule. 

The approach is inconsistent with the theory behind the business judgment rule.  As discussed in Returning Fairness:

  • The business judgment rule represents an over-inclusive protection designed to protect risk taking by directors.  Boards know that even if they take risks that prove in hindsight to be mistaken and harmful, they will escape liability. The presumption is not, however, designed to protect decisions motivated by a conflict of interest. 

Where potential conflicts of interest exist in the decision making process, that is when there are directors participating in the debate and voting on the final resolution who are arguably interested or not independent, the application of the business judgment rule and a presumption of fairness is inappropriate.  In those circumstances, the presumption may be protecting risk taking or it may be protecting a decision influenced or motivated by the interests of the directors allegedly lacking in independence. 

Yet in Delaware that ship has sailed.  It is so well established that boards get the presumption of the business judgment rule so long as they have a majority of disinterested and independent directors that the matter was not even discussed in In re KKR

October 21, 2014
Key Privacy Issues in M&A Transactions
by Yaron Nili, Co-editor, HLS Forum on Corporate Governance and Financial Regulation

Editor's Note: The following post comes to us from Paul A. Chandler, Counsel at Mayer Brown LLP, and is based on a Mayer Brown Legal Update by Mr. Chandler and Lei Shen.

Many merger and acquisition ("M&A") agreements lack specific representations and warranties regarding privacy issues. Often, this is because deal lawyers do not recognize potential privacy risks where the target company (the "Target") lacks e-commerce websites or retail stores that collect consumer data. Nonetheless, significant privacy issues may exist even if the Target is a traditional "brick and mortar" business. Early attention to privacy issues in M&A transaction planning and due diligence can mitigate risks for both buyers and sellers.

Recent high-profile government enforcement actions highlight the need to analyze potential privacy risks. For example, Facebook's acquisition of WhatsApp in February 2014 resulted in the US Federal Trade Commission ("FTC") sending a warning to both companies that the failure to honor WhatsApp's personal data promises to its customers would constitute a deceptive act under the FTC Act. Likewise, Barnes & Noble's recent acquisition of Borders' customer list garnered intense FTC scrutiny due to past promises by Borders not to share its customers' data without their consent.

This article examines key potential privacy issues that may arise in M&A transactions and describes measures that buyers and sellers should take to evaluate and mitigate the risks.

Buyer Concerns

Buyers should conduct thorough due diligence to determine, among other things, (i) the extent to which the Target collects, stores, uses or processes (collectively, "processes") personal data, whether from customers, employees or others, (ii) the nature of the personal data processed, (iii) the countries where the processing occurs and (iv) the Target's current and prior personal data policies and agreements. Special attention should be paid to personal data from EU member countries and other jurisdictions that have stringent privacy laws. Diligence findings should be reviewed with privacy counsel in the relevant jurisdiction(s) to identify legal implications and compliance issues and to help the buyer draft appropriate representations and warranties to cover potential privacy risks.

The Target's privacy policies are often an important source of information for buyers. These policies include any internal data policies, such as employee privacy policies, as well as any customer-facing privacy policies, such as those posted on the Target's website. Buyers should be on the lookout for failures of the Target to comply with such policies, as well as for restrictions that could be inconsistent with how the buyer plans to use data acquired from the Target. If the Target has current and prior versions of these policies, the buyer should assess (i) whether applicable restrictions are different under each version, (ii) what particular data was collected under (and thus subject to) each version and (iii) how such data is stored (e.g., separately by policy version or segregated). Policy restrictions that impact the buyer's intended use of data should be evaluated to identify steps needed to comply with such restrictions (e.g., obtain consent from the individuals affected).

If the proposed M&A transaction involves the transfer of personal data across national borders, the buyer should review the Target's compliance with applicable cross-border transfer restrictions, such as those required by the European Union. For example, if the personal data of EU residents is involved and the seller indicates that the Target is EU-US Safe Harbor certified, the buyer should review the currency of the Target's Safe Harbor certification, as well as the Target's related internal assessments and compliance materials.

If the proposed M&A transaction is structured as a merger or stock purchase, the buyer may be assuming the Target's past liabilities, including those for privacy compliance issues. Accordingly, buyers in such deals should conduct a more comprehensive analysis of the Target's past and current compliance with privacy laws, including with respect to actual or suspected breaches of the Target's privacy policies or IT security.

Even if they do not assume the Target's liabilities, buyers should assess whether the Target complied with applicable privacy laws when it collected such data and any associated limitations on the buyer's subsequent use of the personal data.

Regardless of deal structure, buyers should identify what personal data needs to be transferred to consummate the transaction - such as the Target's employee payroll, medical or other data - and whether any consents or other formalities are needed to permit such transfers.

Finally, if the proposed M&A transaction involves the provision of services from the seller, the buyer should consider the extent and nature of any personal data involved (such as data for payroll or benefits plan administration services) and ensure that there are appropriate contractual privacy protections for the contemplated services arrangement.

Seller Concerns

Sellers also have privacy concerns in M&A transactions, particularly when disclosing personal data during the due diligence process or prior to closing. Sellers should review the Target's privacy policies and applicable privacy laws carefully to determine what personal data - including that of its employees - it can share during the due diligence process, as well as to evaluate the compliance, data use restrictions and other issues described above.

Sellers should take care to limit disclosure of sensitive information and personal data and to avoid disclosing data that could trigger security breach notification obligations (e.g., Social Security numbers, driver's license numbers, credit card numbers or medical data). Sellers should also require that disclosures be subject to appropriate nondisclosure agreements and be conducted via a secure method that allows controlled access (such as an encrypted virtual data room).

If the proposed M&A transaction involves employee personal data, the seller should avoid sharing such data in instances where doing so would violate applicable privacy guidelines or policies or the employees involved have a reasonable expectation of privacy in the data (e.g., job performance reviews). In addition, for employees outside the United States, the seller should evaluate the laws of the applicable countries, which may, in some cases, require employee notice and consent prior to sharing or otherwise limit disclosure.


Current and evolving legal requirements require timely, substantial attention to privacy issues in M&A transactions, even in deals involving traditional "old economy" businesses. Leaving these issues to the end of a deal can cause delays and increase risk. Careful attention to potential risks, including those described in this article, can help both buyers and sellers to mitigate risk in M&A transactions.

October 21, 2014
The Institutional Framework for Cost Benefit Analysis in Financial Regulation
by June Rhee

Editor's Note: The following post comes to us from Robert Bartlett, Professor of Law at UC Berkeley School of Law.

Four years after the enactment of the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank), the use of cost benefit analysis (CBA) in financial regulation has come to play a critical role in an increasingly heated debate concerning the statute's implementation. Requiring nearly three hundred rule-makings across twenty agencies, Dodd-Frank's enormous regulatory mandate represents for many an especially dangerous risk of the typical "drift" and "slack" problems long associated with administrative rule-making. The fact that Dodd-Frank was enacted in the midst of an economic recession only heightens these fears, particularly the concern that overworked and/or overzealous agencies might discharge their regulatory mandate by promulgating cost-insensitive regulations. In light of these concerns, a number of Congressional proposals now exist that would subject financial rule-making to more formal CBA reflecting the conventional belief that rigorous CBA can provide much-needed accountability over regulatory agencies.

Juxtaposed against this generally positive assessment of CBA, however, stands a less sanguine, even sinister view of these proposals. Under this view, the challenge of imposing CBA on financial reforms whose benefits may be difficult to quantity - but whose costs are often easy to estimate - bodes ill for Dodd-Frank regulations. At best, the difficulty of the process will add delay to rule-making as regulators scramble to quantify the unquantifiable. At worse, the expectation of rigorous, quantified CBA will (in the words of Better Markets) "stop financial reform, as all financial regulatory agencies ... grind to a halt trying to do all this burdensome analysis."

My paper, which is forthcoming in the Journal of Legal Studies, argues that the ultimate effect of imposing CBA on financial reform rules hinges critically on the institutional framework in which agencies engage in it. While popular calls for imposing CBA on financial regulation often suggest financial agencies are currently immune from CBA, virtually all of the principal agencies in charge of Dodd-Frank rule-making have come to adopt CBA processes as key components of their deliberative processes. What sets these agencies apart in their use of CBA is instead the institutional context in which they engage in it. It is these differences that shape in important ways the rigor with which agencies conduct CBA (e.g., how seriously an agency seeks to quantify regulatory benefits) as well as how likely it is that CBA might result in undermining an agency's regulatory agenda. For these reasons, the current debate over CBA in financial reform can be viewed as reflecting not so much a debate over whether agencies should engage in CBA at all (indeed, as argued in the paper, there are reasons to believe that agencies themselves will continue to conduct it), but rather, differences over the institutional framework in which this analysis should occur.

To advance this argument, I begin by surveying the current use of CBA within U.S. financial rule-making and the different institutional frameworks in which it is conducted across financial regulators. Using examples from recent regulatory initiatives, I illustrate how CBA is used by financial regulators in four principal institutional contexts. First, financial regulators are shown to differ in whether their CBA analysis is subject to review by the Office of Information and Regulatory Affairs (OIRA). Situated within the White House Office of Management and Budget (OMB), OIRA has required for over three decades substantive CBA for all rules proposed by Cabinet departments and executive agencies. However, because most U.S. financial regulators exist as independent regulatory agencies, OIRA has been denied the authority to review their CBA analyses. The primary exception relates to rules promulgated by the Financial Stability Oversight Council (FSOC) and, for the period prior to Dodd-Frank, rules promulgated by the Office of the Comptroller of the Currency (OCC).

While OIRA review constitutes the first institutional dividing line for agencies using CBA, a second, independent dividing line appears in the form of judicial review of an agency's CBA. As reflected in cases such as Business Roundtable v. SEC, the statutory authority under which a U.S. financial regulator engages in rule-making has frequently been construed by courts to require a formal CBA. Separate and distinct from the type of CBA review associated with OIRA, this form of CBA review has occasionally resulted in rules being remanded to agencies for insufficient analysis. Other agencies, however, have been determined by courts to be free of a statutory requirement of CBA, freeing these agencies to use, or not use, CBA as they deem appropriate - unless they happen to be required to conduct CBA for OIRA.

The following two-by-two table summarizes how these two institutional features work in tandem to define the context in which financial regulators engage in CBA, along with examples of agencies that fit within each paradigm:

The Four Paradigms of Cost-Benefit Analysis in Financial Regulation
OIRA Review No OIRA Review
Judicial Review of Agency CBA (i.e., authorizing statute requires CBA)
  • Financial Stability Oversight Commission*

*With respect to Section 120 rule-making

  • Securities and Exchange Commission
  • Commodity Futures Trading Commission
  • Consumer Financial Protection Bureau
No Judicial Review of Agency CBA (i.e., authorizing statute does not require CBA)
  • Office of the Comptroller of the Currency*

*Previous to Dodd-Frank enactment

  • Federal Deposit Insurance Corporation
  • Federal Reserve
  • Office of the Comptroller of the Currency *

*Following Dodd-Frank enactment

Appreciating the critical role of institutional design in shaping financial regulator's use of CBA has important implications for the current debate about the proper role of CBA in financial regulation. Perhaps most importantly, the fact that so many financial regulators officially use CBA highlights that a formal requirement of CBA need not lead to regulatory paralysis as CBA detractors so often contend. As I argue in the paper, nor would this result necessarily change if Congress were to require that agencies engage in more rigorous, quantifiable CBA as has been proposed in several pending bills. At the same time, however, the uneven application of CBA engendered by the four paradigms raises a number of concerns that suggest this institutional framework would itself fail a cost benefit analysis, providing a compelling case for encouraging a more uniform system of CBA through greater institutional oversight. However, in contrast to currently-pending proposals to find this oversight in judicial review, analysis of the unique challenges of financial rule-making suggests the advisability of moving towards a system similar to what applied to the OCC prior to Dodd-Frank. This system, which eschews judicial review in favor of an effectively unenforceable obligation to comply with an interagency review of CBA mandates, may hold the greatest promise for encouraging a more uniform and transparent application of CBA across financial regulators while avoiding the critique that CBA leads to regulatory paralysis and delay.

The full paper is available for download here.

October 21, 2014
Investment Adviser Pleads Guilty to Wire Fraud Charge
by Tom Gorman

Investment adviser Ismail Elmas pleaded guilty this week to an information charging one count of wire fraud. U.S. v. Elmas, No. 1:14-cr-00358 (E.D. Va.). This action is the latest is a series cases centered on investment frauds in which the adviser or promoter solicits funds from unsuspecting investors and then misappropriates their money.

Mr. Elmas at one time was employed as an investment adviser with Apple Financial Services, an affiliate of Apple Federal Credit Union. He was registered with FINRA as an investment adviser.

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 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.

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

10/22/2014 posts

CLS Blue Sky Blog: Dorsey discusses Survival of Non-Binding LOI Provisions
The D&O Diary: Barclays Libor-Scandal Securities Suit Survives Renewed Dismissal Motion Blog: Posted: Archive Video from the "Usable Proxy Workshop"
Race to the Bottom: Delaware and the Myopic Nature of a "Neutral" Board: In re KKR Financial Holdings
HLS Forum on Corporate Governance and Financial Regulation: Key Privacy Issues in M&A Transactions
HLS Forum on Corporate Governance and Financial Regulation: The Institutional Framework for Cost Benefit Analysis in Financial Regulation
SEC Actions Blog: Investment Adviser Pleads Guilty to Wire Fraud Charge

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