Securities Mosaic® Blogwatch
February 28, 2012
ISS to Host March 6 Webinar on U.S. Board Practices- Subodh Mishra- Governance
by Subodh Mishra

ISS' Governance Exchange is hosting a webinar on March 6 at 1 p.m. EST that covers the latest in director- and board-level trends at companies across the S&P 1500.

Pat McGurn and other ISS research experts will detail findings from our latest study of board practices, covering developments in director diversity, age, and tenure; board leadership; voting standards; and a host of other characteristics now evident at U.S. corporations.

To register for this webinar, please click here.

February 28, 2012
Practice Guidelines for Delaware Court of Chancery and Default Electronic Discovery Standards for U.S. District Court, District of Delaware
by Francis Pileggi

We have previously written on these pages about the relatively new Guidelines issued by the Delaware Court of Chancery, which are intended to give guidance to practitioners on procedural protocols before the Court. We have also written on these pages about the recently updated Default Standards for Electronic Discovery in the U.S. District Court for the District of Delaware.

Kevin Brady and Francis Pileggi have written an article dated Feb. 24, 2012, that combines both of the above topics for the Business Law Section of the American Bar Association's Business Law Today publication, which is now exclusively online. The article is entitled:

Court of Chancery Issues Practice Guidelines; District of Delaware Issues Updated Electronic Discovery Standards

The Delaware Court of Chancery recently issued non-binding guidelines (the Guidelines) to help lawyers and their parties handle common and sometimes complex procedural issues that arise in litigation before the court. The 18-page Guidelines issued in January 2012 cover a variety of "best practices," from contacting chambers and scheduling expedited or summary proceedings, to expert report and confidentiality agreements. The Guidelines also include sample forms for such proceedings as scheduling a preliminary injunction, a Rule 12(b)(6) motion, or cross-motions for summary judgment.

The Guidelines are the product of a joint effort between the judges of the Court of Chancery and the Court's Rules Committee, which is comprised of experienced Delaware practitioners, and include procedures that the court would prefer counsel to follow. Smart lawyers will treat these Guidelines as gospel. For example, with respect to expert reports, the Guidelines state:

In general, the Court prefers that parties stipulate to limit expert written discovery to the final report and materials relied on or considered by the expert. Counsel should be aware that the Court understands the degree of involvement counsel typically has in preparing expert reports. Cross-examination based on changes in drafts is usually an uninformative exercise.

With respect to the form of pleadings, the Guidelines state:

An answer should repeat the allegations of the complaint and then set forth the response below each allegation. Otherwise the Court has to look back and forth from answer to complaint to see what is being denied.

One of the more important guidelines issued by the court provides instruction to the legions of non-Delaware lawyers who coordinate with local Delaware lawyers to litigate cases in Chancery. About these working relationships, the court gives the following specific direction:

Role of Delaware Counsel

a. The concept of "local counsel" whose role is limited to administrative or ministerial matters has no place in the Court of Chancery. The Delaware lawyers who appear in a case are responsible to the Court for the case and its presentation.

b. If a Delaware lawyer signs a pleading, submits a brief, or signs a discovery request or response, it is the Delaware lawyer who is taking the positions set forth therein and making the representations to the Court. It does not matter whether the paper was initially or substantially drafted by a firm serving as "Of Counsel."

c. The members of the Court recognize that Delaware counsel and forwarding counsel frequently allocate responsibility for work and that, in some cases, the allocation will be heavily weighted to forwarding counsel. The members of the Court recognize that forwarding counsel may have primary responsibility for a matter from the client's perspective. This does not alter the Delaware lawyer's responsibility for the positions taken and the presentation of the case.

d. Non-Delaware counsel shall not directly make filings or initiate contact with the Court, absent extraordinary circumstances. Such contact must be conducted by Delaware counsel.

e. It is not acceptable for a Delaware lawyer to submit a letter from forwarding counsel under a cover letter saying, in substance, "Here is a letter from my forwarding counsel."

The foregoing should be required reading for any non-Delaware lawyer that uses Delaware co-counsel. These rules militate against using Delaware counsel to merely file whatever non-Delaware counsel requests. Both Delaware and non-Delaware counsel will be subject to severe penalties for doing so without regard to Delaware standards.

Finally, there are some interesting comments with respect to what counsel should include in compendiums and appendices. The Guidelines show that this is an opportunity to point the court to exactly what counsel want the court to review. There is also a humorous comment where the Guidelines tell counsel they don't have to include everything in a compendium-"Avoid the Manhattan Phonebook. If a submission is huge, uncomfortable to hold, and likely to fall apart, please break it into separate usable volumes."

As the court stated in its announcement:

The goal of the guidelines is to help litigants deal with each other and the Court in a more constructive, less contentious, and therefore more efficient and just manner All the members of the Court recognize the guidelines as sound and members of the Court will endeavor to avoid the chambers-specific approach that results in litigants having to address the idiosyncratic preferences of multiple members of the same court. All of us on Chancery recognize how challenging it is for lawyers to address complex cases especially in view of evolving issues such as electronic discovery, said Chancellor Leo E. Strine, Jr. By developing these practice guidelines with the invaluable help of our Rules Committee, we hope to make our Bar's life a little easier and to enable all of us to concentrate more on the merits, rather than procedural jousting. This will get cases resolved less expensively and faster.

* * *

District of Delaware Revises Default Standard for Discovery of ESI

On December 8, 2011, the District of Delaware revised its Default Standard for Discovery Including Electronically Stored Information (the Revised Default Standard), which applies if the parties are unable to reach agreement on various discovery issues. This is the third version of the default standard. The Revised Default Standard updates the prior default rules regarding electronically stored information (ESI), taking into consideration changes in technology, as well as problems the court and litigants have experienced in handling ESI issues and problems. The Revised Default Standard is available here.

The Revised Default Standard expressly covers preservation of discoverable information, privilege logs, the initial discovery conference, initial disclosures, and electronic discovery procedures. In addition, with the heavy docket that the District of Delaware has in terms of patent cases, there are specific procedures related to initial infringement and invalidity contentions in patent cases. But, more broadly, the Default Standard for Discovery reiterates the court's expectation that litigants will meet and confer early in the litigation about all aspects of discovery, and that the parties will agree on reasonable limits to discovery that are proportional and tailored to the parties and the issues.

Some of the key features of the Revised Default Standard include:


The parties shall preserve non-duplicative discoverable information currently in their possession, custody, or control but no modification of back-up or archival procedures is needed absent a showing of good cause.

The court has identified specific categories of ESI in Schedule A to the Standard that presumptively need not be preserved absent a showing of good cause. The list includes, among other things, deleted data, slack space, RAM, data in metadata fields that are frequently updated automatically, transient data such as temporary Internet files, and instant messages (IM) that are not ordinarily printed or maintained in a server dedicated to IM. This puts the requesting party on notice and shifts the burden onto the party requesting documents to advise the other side of the information it wants to have preserved.

Search Terms and Production Issues

Search terms shall be disclosed by the producing party, if used. The requesting party may request up to 10 additional "focused" terms.

Search terms shall be used on non-custodial data sources and e-mails and other ESI maintained by the 10 custodians most likely to have discoverable information.

No on-site inspection of electronic media is allowed absent a showing of specific need and good cause.

Format of Production

Litigants must produce single-page TIFF images and associated multi-page text files containing extracted text or OCR with Concordance and Opticon load files with metadata.

Litigants may only produce native versions of files not easily converted to image format, such as Excel and Access files.

Litigants must preserve and produce the following metadata to the extent it exists:

  • Custodian;
  • Filename, File Path, File Size, File Extension, MD5 Hash;
  • Author, E-mail Subject;
  • Conversation Index;
  • From, To, CC, BCC;
  • Date Sent, Time Sent, Date Received, Time Received, Date Created, Date Modified;
  • Control Number Begin, Control Number End, Attachment Range, Attachment Begin, and Attachment End (or the equivalent thereof).

Privilege Logs

The parties must meet and confer about privilege logs, whether certain categories of information can be excluded from the logs, and whether alternatives to document by document logs can be exchanged.

The default rule is that parties need not log information generated after the filing of the complaint.

Preservation efforts are protected by the work product doctrine.

The parties must confer on a non-waiver order. See Fed. R. Evid. 502. The default rule is that privileged information, if produced, must be returned if it appears on its face to have been inadvertently produced or if notice of inadvertent production is provided within 30 days.

Custodians and Initial Disclosures

Initial disclosures must contain the following:

  • The party's 10 custodians most likely to have discoverable information, ranked from most to least likely.
  • A list of non-custodial data sources (e.g., enterprise systems, databases, Sharepoint, etc.) from most likely to contain discoverable information to least.
  • Notice of (1) any ESI that is not reasonably accessible, (2) third party discovery, and (3) information subject to third-party privacy concerns or that may need to be produced from outside the United States.

It is important to note that the Revised Default Standard refers to custodians and not key players. While it is important to identify the key players early on in the litigation, it is assumed that the key players related to the litigation will be disclosed in the initial disclosures and discussed at the Rule 26(f) meet and confer.

Discovery in Patent Cases

The Revised Default Standard contains some specific "default" procedures for initial discovery in patent cases as follows:

  1. Within 30 days of the scheduling conference, the patentee shall identify the accused products and the asserted patents, and produce the file history for each patent.
  2. Within 30 days of (1), the accused infringer(s) shall produce core technical documents (operation manuals, product literature, schematics, and specifications) related to the accused products.
  3. Within 30 days of (2), the patentee shall produce an initial infringement claim chart relating each accused product to the asserted claims.
  4. Within 30 days of (3), the accused infringer(s) shall produce initial validity contentions for each asserted claim, with invalidating references.

As emphasized in a footnote, this discovery is "initial" and may be supplemented. Finally, the standard provides that discovery in patent cases is limited to the period extending six years before the filing of the complaint, except as to asserted prior art, conception, and reduction to practice.

There is an over-arching theme of cooperation, proportionality, reasonableness, and collaboration that is reflected throughout the Revised Default Standard. The court wants the parties to work together to come up with reasonable solutions for handling ESI, especially in some of the more important areas such as privilege logs where the court is looking to the parties to reduce the enormous time and expense that is devoted to creating privilege logs dealing with ESI.

* * *

Both of the guidelines published recently by the state and federal courts in Delaware should be carefully studied and followed by practitioners in these courts. Though not on par with court rules, these standards provide insights on best practices expected by the court, and that the best lawyers will follow.

The ABA requires the following notice when re-printing this article: This information or any portion thereof may not be copied or disseminated in any form or by any means or downloaded or stored in an electronic database or retrieval system without the express written consent of the American Bar Association.

2012 American Bar Association Business Law Section. All Rights Reserved.

February 28, 2012
Chancery Enjoins BankAtlantic Sale to BB&T Corp.
by Francis Pileggi

In Re BankAtlantic Bancorp Inc. Litigation, Consol. C. A. No. 7068-VCL (Del. Ch. Feb. 27, 2012). This 42-page opinion of the Delaware Court of Chancery, along with a 14-page appendix to the opinion, permanently enjoined Bancorp from consummating the sale of its equity to BB&T Corporation, after a 3-day trial. This decision has received widespread coverage in the press, such as the South Florida Business Journal.

The Court's opinion provides detailed factual background and a thorough legal analyis to support its reasoning that the prerequisities for injunctive relief were met. Only a cursory overview will be provided in this short post.

First, the Court explained in great detail why the plaintiffs who objected to the sale established a likelihood of success on the merits because the sale would breach the successor obligor provision and constitute an event of default.

Second, irreparable harm was demonstrated because the sale-triggered event of default would give the trustees the right to accelerate payment of debt securities in the amount of $290 million that the seller could not pay. Contrary to the requirements in the relevant debt instruments, the buyer, BB&T, was not assuming those liabilities. In addition to the harm from non-payment, terms of the deal providing for unjustified personal payments to key insiders, which reduced the total purchase price, "will violate the absolute priority rule".

Third, the balance of the hardships favored the grant of injunctive relief. The Court was not persuaded by Bancorp's apocalyptic hyperbole that an injunction would result in Bancorp's failure as an entity and that the status quo (without a sale) is not tenable. The Court cited to evidence at trial that supported the Court's holding.

February 28, 2012
Upcoming enhancements to Knowledge Mosaic's Laws, Rules, Agencies section
by Chris Hitt

As part of our major release next week, you'll see a number of changes to our Laws, Rules, Agencies section. Here's the rundown.

More data. We're adding yet more datasets as we march onward toward our goal of mapping the entire federal regulatory landscape. You can see a topical breakdown of the new data here, and read more about our guiding philosophy here.

Share, or be alerted on, your search. On the new search page, you'll be able to click a link to convert your search into an alert, or to instantly share your search via email with a colleague.

Refine results by category. We'll offer new facets that show how your search breaks down by general document category- including Enforcement, Guidance, Notices & Orders, and Rulemaking. So, for example, you'll be able to easily search across all agency enforcement releases that mention "FCPA" or the "Foreign Corrupt Practices Act."

QuickFind. An alternative way to find what you need quickly. Just type in the agency and select the dataset you need from the dropdown menu. You can also grab the set of law or rules you need (e.g., Securities Regulations). Use the sidebar to refine your results from there.

Deeper facets for Bills & Legislation. When you drill down into the Bills & Legislation category, you'll be able to refine your search by Sponsor and Co-Sponsor (e.g., Senator Rand Paul- KY), Committee (e.g., Senate Budget Committee), and Subject (e.g., Foreign and international banking).

Use the back button! Your browser back button will now allow you to retrace your steps backward through each level of your search.

Expanded Key Securities Compilations. Now its own page and greatly expanded, Key Securities Compilations provides sets of statutes and regulations in easy-to-read PDF format. This single document approach allows you to easily email, save or print these collections. We've recently added Regulation S-K, Regulation M-A, Regulation FD, and many others.

Read more about what's on the way with the latest release of Knowledge Mosaic platform by clicking here.

February 29, 2012
Failed Bank Litigation Questions: Standard of Liability and Affirmative Defenses
by Kevin LaCroix

During the current bank failure wave more banks have failed in Georgia than in any other state. For that reason, the recent dismissal motion ruling in the first failed bank case the FDIC filed involving a failed Georgia bank takes on a heightened level of significance. Northern District of Georgia Judge Steve C. Jones's February 27, 2012 ruling the FDIC's lawsuit against eight former directors of the failed Integrity Bank (here) is not only the first to address the liability standard under Georgia law for directors of failed banks but also the ruling addresses important issues regarding the defenses that defendant directors may raise and rely upon against the FDIC.


Integrity Bank of Alpharetta, Georgia was one of the first in Georgia to fail when it was closed on August 28, 2008. As discussed here, on January 14, 2011, in what was the third FDIC lawsuit overall against former officials of a failed bank and the first in Georgia, the FDIC filed a lawsuit against eight former officials of Integrity Bank. The FDIC's complaint can be found here.

By way of important context, it should be noted that two former Integrity officials have already drawn criminal charges involving activities at the bank, as discussed here. One of the two indicted Integrity officials, Douglas Ballard, is also named as a defendant in the FDIC's civil lawsuit. As noted here, in July 2010, the two individuals entered criminal guilty pleas in the case.

The FDIC, which filed the lawsuit in its capacity as Integrity Bank's receiver, seeks to recover "over $70 million in losses" that the FDIC alleges the bank suffered on 21 commercial and residential acquisition, development and construction loans between February 4, 2005 and May 2, 2007. The defendants filed a motion to dismiss. The FDIC filed a motion to strike certain of the defendants' affirmative defenses.

The February 27, 2012 Ruling

In his February 27 ruling, Judge Jones denied in part and granted in part the defendants' motions to dismiss. The defendants had first sought to dismiss the complaint in reliance on exculpatory provisions adopted in the bank's articles of incorporation. Judge Jones concluded under Georgia law the exculpatory provisions would not be applicable to the action by the FDIC, and he therefore denied the defendants' motion to dismiss to the extent reliant on the exculpatory provision.

The defendants also moved to dismiss the claims against them for ordinary negligence, arguing that the actions were protected under Georgia law by the business judgment rule and therefore they could not be held liable for claims of ordinary negligence. Judge Jones held, after reviewing case law interpreting the business judgment rule under Georgia law that "in light of this authority and the application of the business judgment rule, the Court finds that the Plaintiffs' claims for ordinary negligence and breach of fiduciary duty based upon ordinary negligence fail to state a claim upon which relief can be granted."

However, Judge Jones also held that FDIC's remaining claims for gross negligence and breach of fiduciary duty based up on gross negligence remain, "as they encompass conduct which would fall beyond the ambit of the protections of the business judgment rule." Judge Jones also separately held that the complaint raised allegations from which if true "a jury might reasonably conclude that Defendants were 'grossly negligent' as defined by Georgia law." Accordingly, Judge Jones denied defendants' motion to dismiss the acclaims for gross negligence and breach of fiduciary duty based on gross negligence.

Finally, the FDIC had moved to strike certain of the defendants' affirmative defenses, arguing that the defenses were not available against the FDIC in its capacity as receiver of the failed bank. Judge Jones agreed with the motion to the extent the affirmative defenses sought to rely on the FDIC's actions in its corporate capacity (FDIC-C) prior to the its takeover of the bank. However, Judge Jones denied the FDIC's motion to strike the affirmative defenses based on a failure to mitigate, estoppel and reliance "to the extent those defenses are based upon post-receivership conduct by Plaintiff in its capacity as receiver."

Judge Jones did find, however, that while the defendants could not rely on the FDIC-C's conduct as the basis of an affirmative defense, "the murkier question is whether the defendants can rely on the FDIC-C's conduct to rebut causation or offer an alternative theory of causation." Judge Jones denied the FDIC's motion to strike the causation defense, but indicated that he would call for further briefing on the question of whether or not the defendants can rely on the FDIC's pre-receivership conduct to rebut causation or to support an alternative theory of causation.


Judge Jones's rulings in the Integrity Bank case may be the first under Georgia law in the failed bank context saying that, in light of the business judgment rule, the standard of liability for former directors and officers of the failed bank is gross negligence. To that extent, his ruling is positive for the many directors and officers of failed banks facing liability claims from the FDIC.

However, Judge Jones also found that the relatively unexceptional allegations in the FDIC's complaint were sufficient to state a claim for gross negligence. To that extent, Judge Jones's ruling is less helpful to those many Georgia failed bank officials, because it seems less likely those individuals might be able to get out of an FDIC failed bank lawsuit on a motion to dismiss.

Judge Jones's rulings on the FDIC's motion to strike may be even more interesting, however. His rulings were not merely a matter of Georgia law, but rather were based on his interpretation of the U.S. Supreme Court's 1994 decision in O'Melveny & Myers v. FDIC. His holding that affirmative defenses for failure to mitigate, estoppel and reliance could be raised against the FDIC in its capacity as receiver (even if not available with respect to the agency's actions in its capacity as FDIC-C) could prove helpful to individual defendants in many FDIC failed bank lawsuits - and not just those pending in Georgia.

By the same token, his unwillingness to conclude that the defendants cannot rely on the FDIC-C's conduct to rebut causation or offer an alternative theory of causation at least potentially opens the door for other defendants to try to assert these defenses.

The ultimate significance of this decision, whether in the case itself or in other cases in Georgia or elsewhere, remains to be seen. Certainly, Judge Jones's rulings will be looked to by other courts trying to sort out these issues. The suggestion on his standard of liability rulings is that cases in Georgia may be narrower but perhaps harder to dismiss outright at the motion to dismiss stage. On the other hand, his rulings on the defenses that may be raised against the FDIC may prove helpful for other defendants. In most instances, the FDIC has been able to argue that its conduct is not at issue in suits it brings in its capacity as receiver. Judge Jones's ruling suggests that the FDIC's conduct as receiver at least can at least potentially serve as the basis of an affirmative defense. His ruling on the causation question opens the door that the FDIC-C's pre-closure conduct could also be brought into question as well.

With so many failed banks in Georgia, and with the likelihood of a proliferation of failed bank suits in that state, Judge Jones's rulings could prove to be significant.

Many thanks to the several loyal readers who sent me copies of the Integrity Bank decision. Special thanks to Bob Ambler of the Womble Carlyle firm. Womble Carlyle represents one of the individual defendants in the Integrity Bank case.

February 29, 2012
FDIC: Problem Institutions Decline, But Concerns Remain
by Kevin LaCroix

The FDIC's latest Quarterly Banking Profile for the period ending December 31, 2011, released February 28, 2012 (here), reflects a generally improving banking landscape and a continuing reduction in the number of problem institutions. But though the industry is showing improvement, the number of problem banks, though down from immediately prior periods, still remains elevated compared to historical levels.

According to the report, as of year-end 2011, there were 813 problem institutions, compared to 844 as of the end of the third quarter and 884 as of year-end 2010. (A "problem" institution is a bank to which the FDIC has rated as either a "4" or a "5" on the agency's 1-to-5 scale of ascending order of supervisory concern.) The quarterly decline in the number of problem institutions represents about a 3.6% drop, and the decline during calendar year 2011 represents about an 8% drop. According to the FDIC, the 4Q11 decline in the number of problem institutions represents the third consecutive quarterly decline.

The total assets of problem institutions also declined during the fourth quarter of 2011, from $339 billion at September 30, 2011 to $319.4 billion at year-end 2011. The $319.4 billion 2011 year-end total represents a substantial decline from the $390 billion at the end of 2010 and the $402 billion at the end of 2009.

Though the number of problem institutions began to decline during 2011, the number of problem banks remains at elevated levels compared to historical standards. At recently as year-end 2007, there were only 76 problem institutions listed. Even at the end of 2008 during the height of the global financial crisis, there were only 252 problem financial institutions. In other words, though the number of problem financial institutions is declining, that does not necessarily mean the current banking crisis has passed.

It should also be noted that the declining number of problem institutions does not necessarily mean that the number is declining because of improvement among problem institutions. It could just be that some of the problem banks no longer exist. For starters, the number of reporting institutions overall has been declining for several years. At year end 2011, there were 7,357 reporting institutions, down from 7,658 at the end of 2010 and 8,305 at the end of 2009. The overall decline is mostly due to mergers and failures. These same factors likely also account for much of the decline in the number of problem institutions.

It is impossible to know how much of the decline in the number of problem institutions is due to improvement and how much is due to these other factors. The good news is that the number of bank failures is definitely down. So far, YTD 2012, there have been only 11 bank failures, compared to 23 at this same point last year. The declining rate of failures seems like a positive sign. But again, as noted above, when there are over 800 problem institutions and when banks are continuing to fail, it is hard to conclude that we are entirely out of the woods on the current wave of bank failures and problem banks.

At the same time, much of the news In the FDIC's latest Quarterly Banking Profile is positive. The overall picture for the industry is one of recovery, with growing net income, declining loan loss provisions, and declines in noncurrent loan balances. There is a concern that revenues appear to have slipped, but overall the picture for the banking industry is positive. With these positive signs, the hope is that the improving conditions will allow even the problem institutions to benefit and recover.

Another Failed Bank Lawsuit: As the number of failed banks and problem institutions continues to decline, the number of FDIC failed bank lawsuits is ramping up. On February 24, 2012, the FDIC filed its latest lawsuit. This one was filed in the Northern District of Georgia against two former a former director and officer and a former director of the failed Community Bank & Trust of Cornelia, Georgia. A copy of the FDIC's complaint can be found here.

Community Bank & Trust failed on January 29, 2010. In its complaint, the FDIC seeks to recover in excess of $11 million in losses allegedly caused by the two defendants' breaches of fiduciary duty, negligence and gross negligence related to the bank's home loan program between January 6, 2006 and December 2, 2009. The complaint alleges that the bank's senior head of retail lending violated his legal duties in approving loans in violation of the bank's loan policies. The bank's CEO is alleged to have breached his duties in failing to supervise the loan officer and in failing to take corrective measures.

The suit is the 23rd that the FDIC has filed as part of the current wave of bank failures. According to its website, as of February 14, 2012, the FDIC has authorized suits in connection with 49 failed institutions against 427 individuals for D&O liability with damage claims of at least $7.8 billion. This includes the now 23 filed D&O lawsuits naming 184 former directors and officers. In light of the differences between the number of authorized suits and the number filed to day, there clearly are many suits yet to come - and the number of suits authorized has also been increasing monthly. The banking industry may be slowly improving but the litigation levels are just now starting to ramp up.

Special thanks to a loyal reader for sending me a copy of the complaint.

February 29, 2012
FBI Now Investigating Insider Trading Like Organized Crime & Narcotics
by Stephanie Figueroa

On Monday, the FBI announced that its stock of insider trading informants is plentiful enough to continue investigations of suspected illegal insider trading at hedge funds for at least five more years. The informant mission is known as "Perfect Hedge" and has, since late 2009, included past successful prosecutions of Galleon Group hedge fund founder Raj Rajaratnam and dozens of traders, executives and research consultants.

The FBI is pulling out all the stops in getting their message across. Check out their latest public service announcement featuring non-other than Michael Douglas.

FBI agents supervise squads of securities and commodities fraud investigators, and together they work with cooperating witnesses as well as leaks from within the hedge funds themselves. The agency shared their methods of investigation and the results that have emerged from such enforcement. According to Thomson Reuters,

"We have cooperators set up for years to come," said David Chaves, a supervisory special agent for securities and commodities fraud investigations.

He told reporters that the informants include cooperating witnesses- people who have been identified as conducting illegal trading but who have agreed to assist authorities to catch others in the hopes of receiving a lighter sentence- and sources within hedge funds.

"I don't want to say it's infinite, but clearly in five years we think we will be working it," Chaves said.

The Galleon prosecution and other recent insider-trading cases have used secretly-recorded telephone conversations to gather evidence, an investigatory tool traditionally used in organized crime or narcotics cases.

The use of wiretaps sent a chill through the hedge fund industry closed to outsiders and what the FBI calls "undercover resistant."

Investigators have tracked mobile phone calls, instant messaging and social media to collect evidence.

The FBI says it is alert to new ways in which people may try to exchange information on publicly traded companies to gain an illegal edge.

"We will go to whatever lengths we have to to keep up with changes in technology," said Richard Jacobs, another FBI supervisory special agent for white-collar crime cases.

Both officials emphasized that law enforcement believes that the overwhelming majority of hedge funds and their traders are law-abiding and run their firms responsibly.

To read the Thomson Reuters article in its entirety, click here.

February 29, 2012
SEC Resolves Its Claims Against Two Former Qwest Officers
by Tom Gorman

The Commission concluded its litigation with two of the remaining defendants in its suit which centered on a financial fraud at Quest Communications from early 1999 through 2002. The case gained notoriety because of the high profile insider trading conviction of defendant Joseph Nacchio. SEC v. Nacchio, Civil Action No 05-cv-480 (D. Colo.).

The action named as defendants Quest's chief executive officer Joseph Nacchio, CFO Robert Woodruff, president and COO Afshin Mohebi, director of financial reporting James Kozlowski and senior manager and then director of financial reporting Frank Noyes.

The complaint focused on what it called a massive fraud which concealed the true source and nature of Quest's revenue and earnings growth. During the time period Quest touted its claimed growth in service contacts that were suppose to provide a continuing revenue stream. In fact the revenue of the company came from a one time sales of assets and certain equipment. The complaint also alleged that the performance and growth of the company was misrepresented to the public.

Perhaps the center piece of the action was the civil and criminal insider trading claims against Mr. Mr. Nacchio. In the criminal case Mr. Nacchio was convicted of insider trading and is currently in prison.

This week the Commission settled with Mr. Woodruff and dropped all charges against Frank Noyes. Mr. Woodruff consented to the entry of a permanent injunction without admitting or denying the allegations in the complaint, prohibiting future violations of Securities Act Section 17(a) and Exchange Act Sections 10(b) and 13(b)(5) and from aiding and abetting violations of Sections 13(a) and 13(b)(2). In addition, he agreed to pay disgorgement of $1,731,048 along with prejudgment interest and a civil penalty of $300,000. He will also be barred from serving as a director or officer of a public company.

The Commission took the unusual step of dismissing all charges against Mr. Noyes. The complaint alleged that he violated the same sections cited in the injunction entered against Mr. Woodruff. The lengthy complaint however barely mentions Mr. Noyes in its detailed description of the fraud. The few passages which reference Mr. Noyes claim that he failed to ensure that Qwest's filings adequately disclosed certain revenue and that he did not implement proper procedures to ensure revenue from certain sales was appropriately recognized. Now after almost seven years the litigation has ended for Mr. Noyes.

February 29, 2012
SEC Commissioner Aguilar Urges Mandated Political Spending Disclosure
by Broc Romanek

SEC Commissioner Aguilar Urges Mandated Political Spending Disclosure

Last week, SEC Commissioner Luis Aguilar delivered this speech- entitled "Shining a Light on Expenditures of Shareholder Money"- urging the SEC to act in the newly hot area of political contribution disclosures (Vanessa Schoenthaler's blog notes Chair Schapiro's comments on the topic). Here are other speeches delivered during PLI's "SEC Speaks" Conference:

- Chair Schapiro on agency redesign and operating strategy
- Commissioner Walter on the meaning of being a Commissioner
- Commissioner Paredes on the Volcker Rule
- Commissioner Gallagher on failure to supervise

I have blogged other notes from the conference, both on "The Mentor Blog" (accounting, enforcement and litigation perspective)- and on "The Advisors Blog" (Corp Fin on Form S-3 waivers for failure to amend Form 8-Ks and report say-on-pay frequency voting results).

By the way, the SEC has redesigned its "Speeches and Public Statements" page so that you can more easily sort out speeches by a specific speaker, etc.

Transcript: "The Exploding World of Political Contributions"

We have posted the transcript for our recent webcast: "The Exploding World of Political Contributions."

Webcast: "Conduct of the Annual Meeting"

Tune in tomorrow for the webcast- "Conduct of the Annual Meeting"- to hear Kathy Gibson of Campbell Soup, Carl Hagberg of The Shareholder Service Optimizer, Bob Lamm of Pfizer, Barbara Mathews of Edison International and Carol Ward of Kraft Foods explain how they handle the many challenges of running an annual shareholders meeting.

How old were you when you when you found out that 'Leap Day William' wasn't real? A classic from "30 Rock" if you missed it. Up there with Seinfeld's creation of Festivus...

- Broc Romanek

February 29, 2012
The Cost of Proxy Solicitations and Shareholder Access
by J Robert Brown Jr.

Shareholder access promised to reduce the costs associated with a proxy contest. Shareholders would be allowed in certain circumstances to include their nominee in the company's proxy statement. Likewise the nominee would be included on the company's proxy card. In addition to avoiding the confusion of multiple proxy cards, shareholder access allowed shareholders to avoid the costs of sending out a separate proxy statement.

This did not relieve shareholders of all expenses associated with the nominating process. Picking a candidate, particularly one that met any qualifications imposed by the company would take time and effort and involve some expenditure of resources. Lawyers for shareholders would need to draft the disclosure about the nominee for the company's proxy statement. Finally, any efforts to contact shareholders other than through management's proxy statement would still need to come out of the pocket of the nominating shareholders. The shareholders would, for example, need to pay for any follow up mailings, the hiring of any proxy advisory firm, and any advertisements used to promote their position.

So how much would even this limited right of access to management's proxy statement have saved shareholders? Broadridge has provided data on the costs associated with the distribution of proxies by public companies. As the WSJ reported:

  • Broadridge Financial Solutions Inc., which processes proxies for more than 12,000 U.S. companies' annual meetings, the vast majority of the market, sent out 64 million proxies in the fiscal year ended June 30, 2011. It calculates that they cost the companies a collective total of roughly $425 million in printing and postage, based on a 2010 average printing-cost estimate of $4.82 per proxy statement plus $1.70 for envelope and postage.

High as these numbers seem to be, they represent a significant decline in volume. In 2006, Broadridge sent out 142 million proxies.

Without access, shareholders wanting to nominate their own candidates have to draft a proxy statement and distribute it to those solicited. For public companies, the cost of doing so averages $6.52. While the proxy materials distributed by shareholders would likely cost less (their disclosure burden is much less so the document will have fewer pages), it is still a significant cost, particularly if the proxy statement is distributed to all shareholders.

These costs demonstrate the barrier imposed by the federal securities laws in the exercise of governance by shareholders. While shareholders have the legal right to nominate directors, they generally have no hope of having their candidate elected unless they first solicit proxies. The cost of the solicitation process is, as this data suggests, significant. Unfortunately, the actions of the DC Circuit have allowed this barrier to governance to remain in place. See Shareholder Access and Uneconomic Economic Analysis: Business Roundtable v. SEC.

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