Securities Mosaic® Blogwatch
May 10, 2012
Recent Developments in Delaware Corporate and Alternative Entity Law
by Francis Pileggi

The Delaware State Bar Association's Corporate Law Section is presenting its annual seminar entitled: "Recent Developments in Delaware Corporate and Alternative Entity Law." Kevin F. Brady, Francis G.X. Pileggi and R. Montgomery Donaldson are the co-chairs again this year. The seminar is scheduled to be held on May 22, 2012 from 8:30 a.m. to 12:45 p.m. in Wilmington at the Doubletree Hotel. Members of the Delaware Supreme Court and the Delaware Court of Chancery, as well as leading corporate practitioners and law professors will be making presentations on recent developments, practice guidelines and legal ethics. Information about registering for the seminar can be obtained by contacting Alison Macindoe at the Delaware State Bar Association: The agenda and registration form are also available here.

Among the reasons to attend, is the chance to hear Chancellor Strine discuss the recently promulgated Practice Guidelines for the Court of Chancery. Justice Ridgely of the Delaware Supreme Court will be featured on a legal ethics panel. Another panel is entitled: Corporate Law Updates via Blogs. One of the panelists is Doug Batey of Stoel Rives, author of the LLC Law Monitor blog, who describes the seminar in a post.

May 10, 2012
Midseason Update on Proxy Access
by Sean Quinn, ISS Governance Institute

Proxy access was one of the most highly anticipated issues of the 2012 U.S. proxy season, and here at the halfway mark of the season, this issue has lived up to its billing.

To date, only three proxy access shareholder proposals have gone to a vote, but that's only part of the story.

We have seen a veritable hodgepodge of proposed access rights presented to shareholders: ownership thresholds of 1 percent for one year, 2 percent for one year, 1 percent or 100 shareholders owning $2,000 apiece for one year, and, perhaps most interesting, 15 percent for 1 month. To date, no proposal with a 3 percent/three year ownership threshold patterned after SEC Rule 14a-11 (which was struck down by a federal court) has come to a vote; the first will be at Nabors Industries' meeting on June 5.

In addition, we have seen proxy access proposals used as bargaining chips. Consider the settlements at Hewlett Packard, where a shareholder access proposal was withdrawn after the company agreed to sponsor a proposal in 2013, and at Pioneer Natural Resources, where Norges Bank Investment Management withdrew its proposal after the board adopted majority voting and sponsored a proposal to declassify the board.

Moreover, we have seen the SEC grant no-action relief to most of the companies where shareholders filed proposals fashioned on the U.S. Proxy Exchange's (USPX) model.

This year's first vote on access was at Wells Fargo, where a Norges Bank proposal received almost 33 percent support. The Norges Bank proposals are binding and seek a threshold of 1 percent for one year.

At Ferro Corp., a USPX-style proposal received 13.5 percent support, which appears somewhat high considering many institutional investors' concerns with the USPX ownership threshold, which would permit holders of as little as $200,000 to nominate board candidates. It's possible that some investors considered the company's poor governance practices and history of ignoring majority shareholder votes and cast a symbolic vote for this non-binding proposal.

Third, a binding proposal received 21 percent support at KSW's meeting this week, company officials said. This is an interesting case because it's the first case where we saw a shareholder proposal filed at a company that already had a proxy access right. KSW, a company with a $25 million market cap, adopted a proxy access right with a 5 percent for one year ownership requirement. The shareholder proponent, Furlong Financial, countered with a 2 percent for one year ownership requirement.

Things are still in the early stages though; shareholders will vote on proxy access proposals at Charles Schwab and Princeton National Bancorp on May 17 and at Western Union and CME Group on May 23.

Meanwhile, the SEC staff has denied Norges Bank's request to reconsider a no-action ruling that allowed Staples Inc. to omit its access proposal. The company argued that the binding proposal would conflict with an existing company bylaw.

ISS Governance Exchange members can obtain more information on 2012 proxy access proposals by clicking here.

May 10, 2012
What to Expect When You're Expecting the SEC
by Karen Lyons

Last November, the SEC published new rules under the Investment Advisers Act of 1940 implementing the Dodd-Frank Act's requirement that investment advisers advising one or more private funds and having at least $150 million in private fund assets under management file Form PF with the SEC. We blogged about the SEC's Form PF requirements last December.

Last week, Carlo V. di Florio, the SEC's Director of the Office of Compliance Inspections and Examinations ("OCIE"), provided summary information concerning newly registered private fund advisers and also gave some hints as to what private fund advisers can expect in the way of examinations and inspections. OCIE has previously indicated that private fund inspections will be an area of focus in 2012. (A general outline of what an inspection is like can be found on pages 24-30 of OCIE's February 2012 overview.)

Di Florio highlighted the need for private fund advisers to have:

  1. written policies and procedures which are annually reviewed and overseen by a chief compliance officer;
  2. accurate books and records;
  3. current Form ADVs;
  4. an ethics code; and
  5. accurate advertising materials.

And he reminded advisers of their fiduciary duties regarding fees and expenses, and conflicts of interest.

OCIE is currently identifying the unique risks presented by private equity funds and hedge funds and is developing the information management systems to organize and evaluate the information it will collect via Form PF and Form ADV. Examples of the basic risk characteristics that it will track include any material changes in business activities such as lines of business or investment strategies, changes in key personnel, outside business activities of the firm or its personnel, any regulatory history of the firm or its personnel, anomalies in key metrics such as fees, performance, disclosures when compared to peers or to previous periods, and possible financial stress or weaknesses.

Risk areas that might be considered during an examination include (1) fund strategy; (2) whether the fund controls companies or holds minority positions; (3) product complexity; and (4) the fund's lifecycle.

OCIE is particularly concerned by the possible conflicts of interest faced by private funds, especially for funds which co-invest with their clients or which play a role in a portfolio company. Other conflicts identified by OCIE include those involving fee and expense shifting or maximization.

In closing, di Florio emphasized the need for strong policies and procedures and risk controls. And when expecting the SEC, be prepared with documentation and the ability to access that documentation.

May 11, 2012
This Week In Securities Litigation (Week ending May 11, 2012)
by Tom Gorman

International was a key theme this week. The Commission brought another action against the Shanghai affiliate of an international accounting firm based on its failure to produce work papers from an audit of a Chinese issuer and a proceeding against two investment advisers based in Scotland.

Insider trading continued to be a focus, with actions being filed against a daughter and father trading team and a Hollywood film producer and his relatives and friends. Charges were also brought against the former mayor of Detroit and others alleging that they received kickbacks in connection with an investment in a city pension fund. Finally, the former CEO of a brokerage firm and his office manager were sentenced to prison in connection with a stock manipulation scheme.

The Commission

Speech: SEC Commissioner Luis Aguilar addressed the NASAA/SEC 19(d) Conference, Washington, D.C. (May 7, 2012). His address is titled: Advocating for Greater Federal and State Securities Regulatory Cooperation and Collaboration (here). In his remarks the Commissioner cited opportunities for the SEC and NASAA to partner in the future including on the transition of advisers to the states and crowdfunding under the JOBS Act as well as on the financial exploitation of the elderly and the advisory committee.

SEC Enforcement: Filings and settlements

Statistics: This week the SEC filed seven civil injunctive actions and two administrative proceedings (excluding follow-on and 12(j) actions).

Breach of fiduciary duty: In the Matter of Martin Currie, Inc., Adm. Proc. File No. 3-14873 (May 10, 2012) is a proceeding which names as Respondents: Martin Currie Inc., a registered investment adviser based in Scotland and Martin Currie Investment Management Ltd., a registered investment adviser based in Scotland that advises Martin Currie China Hedge Fund L.P. The Order alleges violations of Advisers Act Sections 206(1) and (2) and 206(4) and Investment Company Sections 17(d) and 34(b). During the financial crisis in early 2009 Martin Currie Investment used the assets of client The China Hedge Fund, Inc., a registered investment company listed on the NYSE, to rescue The Martin Currie China Hedge Fund, according to the Order. That fund required liquidity because a significant investment was illiquid. The difficulty arose from a miscalculation by the advisers which resulted in the fund purchasing more unregistered securities than permitted and which turned out to be illiquid. That investment was improperly classified to conceal the error. Martin Currie Investment alleviated this situation by causing The China Hedge Fund to enter into a $10 million bond redemption transaction which created liquidity for the illiquid Martin Currie China Hedge Fund. The investment was a poor one for The China Hedge Fund however since the bonds were later sold at 50% of their face value.

To resolve the proceeding Martin Currie Inc. consented to the entry of a censure and a cease and desist order based on the Sections cited in the Order. Martin Currie Investment also consented to the entry of a censure and a cease and desist order based on Advisers Act Section 206(4) and Investment Company Act Section 17(d). The Respondents are jointly and severally liable for the payment of a penalty of $8.3 million. The penalty was limited to that amount based on the cooperation of the Respondents. Overall Martin Currie paid $14 million to resolve matters with the SEC and the FSA.

SOX Violation: In the Matter of Deloitte Touche Tohmatsu Certified Public Accountants Ltd., Adm. Proc. File No. 3-14872 (May 9, 2012) is a proceeding which names as a Respondent PRC based Deloitte Touche Tohmatsu Certified Public Accountants or D&T Shanghai. This action is based on Rule 102(e)(1)(iii) which concerns willful violations of the federal securities laws. The Order alleges violations of SOX Section 106(b) which requires that foreign public accounting firms produce work papers on the request of the PCAOB or the SEC in connection with any investigation of one of its audit reports. Since April 2010 the staff has made extensive efforts to obtain the work papers related to "Client A," according to the Order. The firm has declined, through its international parent, to produce the requested work papers based on its understanding that PRC law precludes their production. The Order alleges that the failure to produce the requested work papers constitutes a violation of SOX Section 106(b). A hearing will be convened.

Kickbacks: SEC v. Kilpatrick, Case No. 12-cv-12109 (E.D. Mich. Filed May 9, 2012) is an action against Kwame M. Kilpatrick, former mayor of Detroit, Jeffrey W. Beasley, former city treasurer, Chauncey Mayfield, the CEO of MayfieldGentry Realty Advisors, LLC, an investment adviser, and MayfieldGentry. The complaint alleges that the defendants obtained lavish perks in the form of expensive travel from MayfieldGentry whose CEO was recommending to the trustees that the pension funds invest about $117 million in a REIT controlled by the firm. The demand for the perks/kickbacks began while Mr. Kilpatrick was still mayor at a time when the CEO of MayfieldGentry supported the opposing candidate and hired his daughter. Subsequently, the demands continued until thousands of dollars in travel and entertainment were given. The complaint alleges violations of Securities Act Sections 17(a)(1), (2) and (3) and Advisers Act Sections 206(1) and (2).

Manipulation: SEC v. Blech, Civil Action No. 12 CV 3703 (S.D.N.Y. Filed May 9, 2012) is an action against David Blech, who has previously pleaded guilty to securities fraud and has been barred from the industry in a Commission action, and his wife, Margaret Chassman. The complaint details a complex market manipulation scheme in which the defendants used over fifth brokerage accounts to conduct matched sales of large blocks of thinly traded pharmaceutical stocks to manipulate the share price. The two defendants also sold unregistered securities. The complaint alleges violations of Securities Act Sections 5 and 17(a) and Exchange Act Sections 10(b), 15(b)(6)(B), 13(d) and 16(a). The U.S. attorney announced a parallel criminal action. Both cases are pending.

Prime bank fraud: SEC v. Kegley, Case No. 1:12-CV-1605 (N.D. Ga. Filed May 8, 2012) is an action against Gerald Kegley and his company, Prism Financial Services LLC. It alleges that from April through August 2010 he introduced six individuals who invested $1.95 million into a fraudulent scheme. Investors supposedly could draw on bank issued guarantees worth millions of dollars without having to repay the withdrawn funds. The investor funds were supposed to be held in escrow until the bank guarantees were issued. In fact the representations made to the investors were false. The complaint alleges violations of Securities Act Sections 5 and 17(a) and Exchange Act Sections 10(b) and 15(a).

Market timing: SEC v. Tambone, Case No. 06-cv-10885 (D. Mass. Filed May 19, 2006) is an action against James Tambone and Robert Hussey who were previously senior executives as Columbia Funds Distributor, Inc., the underwriter of the Columbia complex of mutual funds. It claimed that the two defendants permitted market timing by certain traders in violation of the terms of the prospectuses. In this long running action which is the subject of a court of appeals opinion on primary liability (here), the defendants settled and consented to the entry of a final judgment which requires Mr. Hussey to pay disgorgement in the amount of $37,500 along with prejudgment interest and a civil penalty of $75,000. Mr. Tambone agreed to pay disgorgement of $26,344 along with prejudgment interest and a civil penalty of $75,000. The parties agreed that claims regarding aiding and abetting violations of Exchange Act Section 10(b) would be dismissed. The claim in the complaint alleging direct violations of that Section was dismissed earlier in the litigation.

Insider trading: SEC v. Longoria, Civil Action No. 11-CV-0753 (S.D.N.Y.) is an action centered on the expert networking firm Primary Global Research LLC and its consultants, employees and clients. In essence the complaint alleges that the firm funneled inside information to clients from company insiders. This weeks James Fleishman, one of the primary figures in the action, settled with the Commission, consenting to the entry of a permanent injunction prohibiting future violations of Exchange Act Section 10(b). The Order also requires him to pay disgorgement of $49,150 which will be deemed satisfied by the order of forfeiture entered against him in the parallel criminal case. In that action he was sentenced to a term of 30 months in prison. Mr. Fleishman also consented to the entry of an order barring him from the securities business and from participating in any penny stock offering in a separate administrative proceeding.

Insider trading: SEC v. Amin, CV12- 3960 (C. D. Cal. Filed May 7, 2012) is an action against Mohammed Mark Amin, a Hollywood movie producer, his brother Robert Reza Amin, his cousin, Michael Mahmood Amin, his business manager, Sam Saeed Pimazar, Mary Teresa Coley, a long time friend of Mark and his brother, and Ali Tashakori, a contractor who did construction work for Mark and his brother. The action centers on DuPont Fabros Technologies, Inc. or DFT, and certain leases and loans it was arranging that were announced in an earnings release on February 11, 2009. Mark had been a DFT board member since the company went public in October 2007. He is related by marriage to the CEO. After learning about the leases and loans at a board meeting on December 22, 2009, Mark spoke with the CEO about them on the phone in early January 2009. Shortly after the telephone call Mark told his cousin and, in addition, his business manager Mr. Pirnazar about the pending transactions at DFT. Both traded. At the February 4, 2009 board meeting Mark received additional information about the pending transactions. The next morning he told his brother about the matters who also traded and told his close friends, Mary Teresa Coley and Ali Tashakori. Both traded. Following the close of the market on February 11, 2009 the company issued an earnings release and the share price rose 36% giving the traders profits of over $614,000. Each of the defendants settled with the Commission, consenting to the entry of a permanent injunction prohibiting future violations of Exchange Act Section 10(b). Mark also agreed to the entry of an officer director bar for ten years. In addition, the defendants collectively agreed to pay disgorgement of $618,497 along with prejudgment interest and a penalty of over $540,000.

Insider trading: SEC v. Milliard, Case No. CV 12-73 (D. Mon. Filed May 7, 2012) is an action against Angela Milliard, a paralegal at Semitool, Inc. and her father, Kenneth Milliard, a retired business executive. The case focuses on the announcement of a tender offer for the shares of Semitool by Applied Materials, Inc. on November 17, 2009. In October 2009 Ms. Milliard became a key member of the deal team. As she worked on the deal she telephoned her father. At times the two traded through online brokers during the calls. At other times trades were placed shortly after the calls. Mr. Milliard also tipped his sons. When the deal was announced on November 17 the market closed up 30% and the family members sold their shares for a collective profit of $47,805.11. The complaint alleges violations of Exchange Act Sections 10(b) and 14(e). Daughter and father settled with the SEC. Each consented to the entry of a permanent injunction prohibiting future violations of the Sections cited in the complaint. Ms. Milliard also agreed to pay disgorgement of $20,355 along with prejudgment interest and a civil penalty of $54,022.11. Mr. Milliard agreed to disgorge his trading profits and those of his sons, totaling $47,805, along with prejudgment interest, and to pay a penalty equal to the amount of the disgorgement.

Investment fund fraud: SEC v. A.L. Water Capital, LLC, Civil Action No. 12-cv-10783 (D. Mass. Filed May 4, 2012) is an action against Arnett Waters and two entities he controls, broker dealer A. L. Water Capital and investment adviser Moneta Management, LLC. Beginning in 2009 and continuing to the present, the defendants are alleged to have fraudulently induced at least eight investors to put $780,000 in their fund. One investor was a church that invested $500,000. The funds were supposed to be invested in a portfolio of securities. Instead, much of the money was misappropriated. The complaint alleges violations of Exchange Act Section 10(b), Securities Act Section 17(a) and Advisers Act Section 206. The defendants settled, agreeing to the entry of a preliminary injunction which precludes the defendants from soliciting additional funds and provides for other relief.

Criminal cases

Market manipulation: U.S. v. Mandell, 09-cr-00662 (S.D.N.Y.) is an action in which Ross Mandell and Adam Harrington are defendants. Mr. Mandell was the CEO of brokerage firm Sky Capital, LLC, and its related companies. He also controlled The Thornwater Company, L.P. Mr. Harrington managed the Sky New York office for a time. From 1998 through 2006 Mr. Mandell and others participated in a scheme to induce investors to purchase Thornwater and Sky Capital related private placement interests. To induce purchases, investors were told that they were acquiring the shares at a discount to market. They wee not told that the market price was being manipulated by Mr. Mandell and others who were paid huge commissions. The scheme is alleged to have defrauded investors out of about $140 million. Following a five week trial in July 2011 Messrs. Mandell and Harrington were found guilty by a jury of conspiracy, securities fraud, wire fraud and mail fraud. Both were sentenced last week. Mr. Mandell received a twelve year prison term and was ordered to forfeit $50 million. Mr. Harrington was sentenced to serve five years in prison.


The regulator imposed a fine of £3,345,000 on Mitsui Sumitomo. The FSA also imposed a ban an a fine of £119,303 on the former executive chairman of the firm, Yohichi Kumagai. MSEI is the London based subsidiary of Mitsui Sumitomo Insurance Company Ltd. of Japan, one of the world's largest non-life insurance groups. Traditionally the firm supplied wholesale insurance coverage to Japanese firms in Europe and the Middle East. Beginning in 2007 it expanded its business. In early 2009 Mr. Kumagai was seconded from the parent to become executive chairman of the subsidiary. Shortly after assuming that post the FSA warned the firm that with its expansion into European markets it would need focused oversight from an appropriately skilled and experienced board. The firm failed to take this step. The management structure and composition of the board was ineffective. The chairman failed to take appropriate steps. As a result the firm had significant failings in corporate governance and control arrangements which resulted in it being poorly organized and managed. This is contrary to the proposition that senior management must take responsibility for the firms they run.

May 11, 2012
Say-on-Pay: Failures #9-14 in US; Things Getting Heated Overseas
by Broc Romanek

Say-on-Pay: Failures #9-14 in US; Things Getting Heated Overseas

Here's something I blogged on's "The Advisors' Blog" yesterday:

I've added five more companies to our failed say-on-pay list for 2012: Manitowoc- 48%; Mylan- 48%; Tower Group- 30%; Cenveo- 40%; and Sterling Bancorp- 41% (results disclosed in 10-Q rather than 8-K). As noted in this article, Knight Capital Group lost its SOP vote on Wednesday.

As Europe faces upheaval, so do the voting results on pay in the United Kingdom and Switzerland- even going so far as to cost the CEO of Aviva his job, as noted in this WSJ article! Barclays, Credit Suisse and UBS. And check out this Reuters article.

Transcripts: Our Two Blockbuster JOBS Act Webcasts

We have posted the transcripts for our pair of popular webcasts on the JOBS Act:

- "The New World of IPOs: Dissecting the JOBS Act"
- "JOBS Act & More: How Private Placements and Reg D Are Changing"

TechCrunch recently ran this blog noting that SolarCity is one of the first companies to use Corp Fin's confidential submission process for an IPO by an emerging growth company under the JOBS Act. Here is SolarCity's Rule 135 notice.

A "Secret" Way to Invest in Facebook Before It Goes Public

With six pre-effective amendments to its Form S-1 under its belt, Facebook's IPO is set to price next week- amid lower than expected demand according to this Bloomberg article- and the SEC's Enforcement staff probably has it's hands full as some folks are pretty brazen in their shady dealings, playing off the Facebook deal. I'm not sure if this is one of them- but this 4-minute video entitled "A "Secret" Way to Invest in Facebook Before it Goes Public" sure sounds fishy...

- Broc Romanek

May 11, 2012
Delaware Courts and the "Protection" of Investors
by J Robert Brown Jr.

Martin Marietta Materials v. Vulcan Materials Co., 2012 Del. Ch. LEXIS 93 (Del. Ch. May 4, 2012) is a 138 page tome ultimately holding that Martin Marietta violated a confidentiality agreement with Vlucan. As a result, the Chancery Court enjoined Martin Marietta's hostile offer for Vulcan. The interesting thing in the case concerns the court's treatment of the argument that an injunction would harm shareholders.

When the court finds a violation of the law, they must consider an appropriate remedy. In some cases, the parties argue that a particular remedy would be harmful to shareholders. That issue came up in El Paso Energy. There the Chancery Court first found that shareholders had sufficiently alleged a violation of the duty of loyalty. When addressing the injunction sought by shareholders, however, the court demurred. Doing so would harm shareholders. As the court reasoned, an injunction would potentially cause "more harm than good" to shareholders by allowing the purchaser to walk away from the offer.

The court made no mention of the broader benefits to the market that could have flowed from an injunction. While shareholders of El Paso could have been injured by the remedy (any delay could have caused the bidder to withdraw the offer and move on), the market arguably would have benefited in the aggregate from strong measures against alleged breaches of fiduciary obligations. The broader benefit, however, was not addressed.

In Martin Marietta, the same issue came up. Martin Marietta argued that even had it violated the confidentiality agreement, any injunction prohibiting its hostile acquisition attempt would be harmful to shareholders. As the court described:

  • In some of its arguments, Martin Marietta has tried to assert that this case has large implications for the ability of American investors to receive premium-generating offers for their shares. Martin Marietta implies that, if it is enjoined from pursuing its Exchange Offer and Proxy Contest because it violated the Confidentiality Agreements, a chill on M&A activity will result, harming stockholders and lowering share values. In its starkest form, Martin Marietta's argument is that a loss for Martin Marietta in this litigation will turn every confidentiality agreement into a standstill, even though standstills are a common contractual provision.

That contention, however, received short shrift.

  • But to the extent that Martin Marietta suggests that courts should not enforce confidentiality agreements as they do other contracts on the ground that to do so is necessary to protect stockholders, I see no warrant in our law for such adventurism and no empirical basis to move our common law of contracts in that direction.

In other words, harm or not to shareholders, the court intended to enforce the contract. The court went on, however, to explain how shareholders in the aggregate benefited from the enforcement of the confidentiality agreement.

  • The American M&A markets are extremely vibrant and generate a high volume of premium-generating transactions, even in comparison to the U.K. system beloved by certain of my favorite academics in corporate law. One of the reasons for this vibrancy is the freedom given to corporations to use contracts to limit the very real business risks attendant to exploring M&A transactions. By respecting contract rights, our courts give parties in commerce the confidence that they can rely upon the contracts they execute to reduce risks and transaction costs If the message is sent that the confidentiality and other agreements that control the downside risks of such engagement will not be respected, then one can rationally expect such competitors not to be as prone to considering such transactions.

In other words, whatever the impact in this particular situation, investors and the market would benefit from knowing that contracts will be vigorously enforced.

Perhaps. Only the same thing can be said about enforcing fiduciary obligations. Yet in the Delaware courts, that does not seem to be the case.

May 11, 2012
Short Sellers, News, and Information Processing
by R. Christopher Small

Editor's Note: The following post comes to us from Joseph Engelberg of the Department of Finance at UC San Diego, Adam Reed of the Department of Finance at the University of North Carolina, and Matthew Ringgenberg of the Department of Finance at Washington University in St. Louis.

There is strong evidence that high levels of short selling are associated with lower future returns and this return predictability suggests that short sellers, on average, have an information advantage over other traders (e.g., Senchack and Starks, 1993; Asquith, Pathak, and Ritter, 2005; Boehmer, Jones, and Zhang, 2008). However, while return predictability suggests that short sellers have an information advantage, it says little about the source of this advantage. In our forthcoming Journal of Financial Economics paper, How Are Shorts Informed? Short Sellers, News, and Information Processing, we ask how short sellers obtain an information advantage.

During the financial crisis in 2008, some regulators and journalists accused short sellers of illegitimate trading practices. In fact, the Securities and Exchange Commission (SEC) suggested that short sellers spread "false rumors" in an effort to manipulate firms "uniquely vulnerable to panic." However, in contrast to this manipulation hypothesis, we find that a substantial portion of short sellers' trading advantage comes from their ability to analyze publicly available information. These findings suggest that, on average, short sellers do not manipulate prices, but rather, they help prices incorporate pertinent information.

To examine the source of short sellers' trading advantage, we combine a large database of corporate news articles with a large panel of daily short selling data. This unique combination allows us to comprehensively examine the relation between short selling and public news events. Existing theoretical models provide mixed predictions on the relation between news events and financial markets. On the one hand, a number of papers argue that news reduces information asymmetries (e.g., Korajczyk, Lucas, and McDonald, 1991; Diamond and Verrecchia, 1987). On the other hand, several papers suggest that public news events can lead to differential interpretations by traders based on variation in traders' skill (e.g., Kandel and Pearson, 1995). Rubinstein (1993) puts it succinctly: "In real life, differences in consumer behavior are often attributed to varying intelligence and ability to process information. Agents reading the same morning newspapers with the same stock price lists will interpret the information differently." Consistent with the latter view, we find that public news events appear to be precisely the moment when informed traders gain an information advantage over others.

While news events occur on only 22% of the days in our sample, we find that short positions initiated on these days account for over 45% of the total profitability from short selling. Thus, while there is evidence that some short sellers trade prior to certain events, (e.g., Karpoff and Lou (2010), Christophe, Ferri, and Angel (2004)), we find that a substantial portion of short sellers' trading advantage comes from their ability to analyze publicly released information. We also find that the relation between short sales and future returns is significantly stronger following bad news. However, when we examine news articles which contain neither good nor bad information (and so the potential advantage from processing information is likely minimal), we find that the relation between short sales and returns is significantly weaker. Finally, when we examine the trades of market makers separately from the trades of other short sellers, we find that the most informed short sales are not from market makers but rather from clients. The results are consistent with the idea that public news provides valuable trading opportunities for short sellers who are skilled information processors.

Overall, our findings shed light on the evolution of informed traders in financial markets. Although many models of financial markets assume the existence of informed traders who have superior information about asset values, these models often beg the question: where do these informed traders come from? Because short sellers are well known to be informed traders, we can think of the environment in our study as a laboratory for informed trading in general. From this perspective our paper addresses a more fundamental question: how do informed traders become informed?

The answer in our study is perhaps surprising. Instead of leveling the information playing field between informed and uninformed traders, news events appear to actually increase information asymmetries. Our results suggest that short sellers tend to be skilled information processors who help prices incorporate pertinent information. Accordingly, the findings have important implications for academics, practitioners, and regulators seeking to understand the role that short sellers play in financial markets.

The full paper is available for download here.

May 11, 2012
JOBS Act Applies to Debt-Only Issuers
by John F. Olson

Editor's Note: John Olson is a founding partner of Gibson, Dunn & Crutcher's Washington, D.C. office and a visiting professor at the Georgetown Law Center. This post is based on a Gibson Dunn alert.

On April 5, 2012, President Obama signed the Jumpstart Our Business Startups Act ("JOBS Act" or the "Act") into law. While the Act and recent commentary have focused primarily on common equity issuances by "Emerging Growth Companies" (or "EGCs"), the JOBS Act also impacts companies that have issued only debt securities in registered transactions, typically pursuant to an "A/B" exchange for privately offered high-yield debt securities. Many of these companies subsequently become "voluntary filers" of SEC Exchange Act reports to comply with on-going debt covenants.

The attached chart summarizes how certain JOBS Act provisions apply to these debt-only issuers. As indicated in the chart, they may benefit from a number of JOBS Act provisions with regard to their Securities Act registration statements and Exchange Act reports, including:

  • potentially indefinite EGC status, assuming the $1 billion revenue, $1 billion debt issuance every three years, and certain other thresholds are never crossed;
  • the option to submit to the SEC confidential drafts of Securities Act registration statements for any offering prior to the issuer's first sale of its common equity securities pursuant to an effective Securities Act registration statement;
  • the option to comply with new accounting standards applicable to public companies on the schedule that is applicable to private issuers; and
  • the option to provide scaled back executive compensation disclosure.

In addition, after the SEC adopts implementing rules, companies that issue debt securities privately will be permitted to engage in general solicitation and general advertising in connection with offerings made in reliance on Rule 506 of Regulation D and Rule 144A under the Securities Act, just as they will be able to do with respect to equity offerings.

Our client alert with respect to the JOBS Act, which includes a summary of effectiveness times of various JOBS Act provisions, is available here:

Jumpstart Our Business Startups (JOBS) Act Changes the Public and Private Capital Markets Landscape

A recording of Gibson Dunn's recent webcast regarding the JOBS Act and related materials are available here:

The JOBS Act: What companies need to know about this legislation and its impact on capital markets practices

Effect of JOBS Act on Debt-Only Issuers

We expect interpretations from the staff of the SEC (Staff) and market practices will continue to develop rapidly in the coming weeks and months, even before the Commission issues any of the rules mandated by the JOBS Act. In the two weeks since the enactment of the JOBS Act, the Staff has posted written guidance on its website on four separate occasions and spoken publicly at least once about the JOBS Act. Many questions about the interpretation and implementation of the JOBS Act remain. This chart is provided based on the JOBS Act as signed by President Obama April 5, 2012 and available guidance from the Staff as of April 20, 2012.

Eligible to be Emerging Growth Companies ("EGCs")? YES. May be an EGC even if registration statement became effective prior to December 8, 2011. We refer to debt-only issuers that are EGCs as "debt-only EGCs."
For how long will a debt-only EGC retain EGC status? POTENTIALLY INDEFINITELY. Section 101(a) provides that a company that is an EGC will retain EGC status until (1) the last day of the fiscal year in which it has total annual gross revenues of at least $1 billion; [1] (2) the last day of the fiscal year following the fifth anniversary of the date of the first sale of common equity securities pursuant to a Securities Act registration statement (referred to herein as the "initial public offering");[2] (3) the date on which the issuer has, during the previous three-year period, issued more than $1 billion in non-convertible debt; or (4) the date on which the issuer is deemed to be a "large accelerated filer." If no sale of a debt-only EGC's common equity securities pursuant to a Securities Act registration statement ever occurs, a debt-only EGC may never reach any of these triggers.
Eligible to confidentially submit draft registration statements for offerings to the SEC? YES, POTENTIALLY FOR MULTIPLE TRANSACTIONS. This provision applies to any EGC prior to its initial public offering. So long as a debt-only EGC remains an EGC, prior to the date of its initial public offering, a debt-only EGC may take advantage of the ability to confidentially submit registration statements for multiple transactions.
Permitted to present only two years of audited financial statements in Securities Act registration statements relating to debt securities? NO. [3] Section 102(b)(1)(B) provides that an EGC "need not present more than 2 years of audited financial statements in order for the registration statement... with respect to an initial public offering of its common equity securities to be effective". Thus, only issuers filing a registration statement with respect to an initial public offering of equitymay submit two years of audited financial statements. SEC guidance states that the Staff "will not object if, in other registration statements, an emerging growth company does not present audited financial statements for any period prior to the earliest audited period presented in connection with its initial public offering of common equity securities." See FAQ no. 12 to April 16, 2012 JOBS Act Frequently Asked Questions. So while an IPO EGC that subsequently files a debt securities registration statement may be able to take advantage of this provision with respect to the debt securities registration statement, debt-only EGCs will not because, by definition, a debt-only EGC has not filed an IPO registration statement.
Permitted to limit disclosure of selected financial data to fewer than five years in Securities Act registration statements relating to debt securities? NO. [3] Similar to above, in "any other registration statement," an EGC need not present selected financial data for any period prior to the earliest audited period presented in connection with its initial public offering. In the absence of an IPO registration statement, however, debt-only EGCs may not take advantage of this provision. As above, although SEC guidance states that the Staff "will not object if an emerging growth company presenting two years of audited financial statements in its initial public offering registration statement in accordance with Section 7(a)(2)(A) limits the number of years of selected financial data under Item 301 of Regulation S-K to two years as well," debt-only EGCs will not be able to take advantage of this provision because, by definition, a debt-only EGC has not filed an IPO registration statement. See FAQ no. 11 to April 16, 2012 JOBS Act Frequently Asked Questions.
Permitted to limit disclosure of selected financial data in Exchange Act reports to three years? YES.A debt-only EGC need not present selected financial data for any period prior to the earliest audited period presented in connection with its first registration statement that became effective under the Exchange Act or Securities Act, which would be three years of audited financial statements. This option may, as a practical matter and in most circumstances, ultimately save a debt-only EGC only a limited amount of time and effort, as five years of selected financial data will have previously been presented for the debt-only EGC's first registration statement.
Permitted to comply with new accounting standards applicable to public companies on the schedule that is applicable to private issuers? YES.
Permitted to present scaled-back executive compensation disclosure? YES.
Exempt from requirement to hold say-on-pay, frequency of future say-on-pay, and say-on-golden parachute votes? NOT APPLICABLE. Debt-only EGCs are not required to hold these votes because debt-only issuers are not subject to proxy rules.
Exempt from requirement to disclose the ratio between CEO pay and median employee pay? YES. Although debt-only issuers are generally subject to the disclosure requirements set forth in Item 402 of Regulation S-K, Section 102(a)(3) of the JOBS Act exempts EGCs generally from the requirement to report the CEO pay ratio (when adopted by the Commission).
Exempt from requirement to disclose "pay versus performance"? NOT APPLICABLE. Debt-only EGCs will not be subject to the obligation to disclose "pay versus performance" (when adopted by the Commission) because this disclosure requirement relates to proxy solicitations and debt-only issuers are not subject to proxy rules.
Exempt from Sarbanes-Oxley Section 404(b)'s requirement to produce an auditor attestation report on internal control over financial reporting? YES, but the option given by the JOBS Act is of limited practical effect because debt-only issuers generally are never required to comply with Section 404(b).
Exempt from requirements of any rules adopted by the PCAOB regarding auditor rotation or a supplement to the auditor's report? YES.


[1] The Staff has indicated that all non-convertible securities issued that constitute indebtedness, irrespective of whether such securities were issued publicly or privately and whether or not such indebtedness remains outstanding, will be included in this calculation. FAQ no. 17 to April 16, 2012 JOBS Act Frequently Asked Questions (available at The Staff has also stated that the calculation will be made on the basis of a rolling three-year period without respect to any fiscal year end. Id. The statute does not specify whether registered debt securities issued in an A/B exchange offer will be counted in this calculation and, to date, the Staff has not commented on this question. Because the registered debt securities represent, effectively, the same indebtedness that was issued in the initial private issuance, the Commission or the Staff may determine that such securities should not be included in the calculation in order to prevent "double counting" this indebtedness.

[2] The Staff has indicated that "The phrase 'date of the first sale' in the definition of initial public offering date is not limited to the date of a company's initial primary offering of common equity securities for cash. It could also include an offering of common equity pursuant to an employee benefit plan registered on a Form S-8 as well as a selling shareholder's secondary offering registered on a resale registration statement." FAQ no. 1 to April 10, 2012 JOBS Act Frequently Asked Questions (available at Although "initial public offering" is not defined in the statute, it is used in the statute in a manner consistent with the understanding expressed by the Staff in this FAQ.

[3] As indicated above, Staff guidance regarding the JOBS Act is developing rapidly, and it is possible that the SEC will extend the benefits of reduced presentation of audited financial statements and selected financial data in Securities Act registration statements to debt-only issuer EGCs.

May 11, 2012
CEO Succession Practices
by Matteo Tonello

Editor's Note: Matteo Tonello is Managing Director of Corporate Leadership at The Conference Board, Inc. This post relates to a Conference Board report led by Dr. Tonello, Jason D Schloetzer of Georgetown University, and Melissa Aguilar of The Conference Board. For details regarding how to obtain a copy of the report, contact

In our study, CEO Succession Practices (2012 Edition), which The Conference Board recently released, we document and analyze 2011 cases of CEO turnover at S&P 500 companies. The study is organized in four parts.

Part I: CEO Succession Trends (2000-2011) illustrates year-by-year succession rates and examines specific aspects of the succession phenomenon, including the influence on firm performance on succession and the characteristics of the departing and incoming CEOs.

Part II: CEO Succession Practices (2011) details where boards assign responsibilities on leadership development, the role performed within the board by the retired CEO, and the extent of the disclosure to shareholders on these matters.

Part III: Notable Cases of CEO Succession (2011) includes summaries of 10 episodes of CEO succession that made headlines in the past two years and that were carefully chosen to highlight key circumstances of the process.

Part IV: Shareholder Activism on CEO Succession Planning (2011) reviews examples of companies that have recently faced shareholder pressure in this area.

CEO succession rate The rate of CEO succession in calendar year 2011 was 10.8 percent, consistent with the average number of annual succession announcements from 2000 through 2010. In 2011, 55 CEOs in the S&P 500 left their post.

Company performance as a determinant The probability of CEO succession is higher following poor performance than following better performance. In the 2000–2010 period, the succession rate of CEOs of poorly performing companies ranged from 21 percent in 2002 to 10 percent in 2006 and 2009 (on average, 14 percent for the period covered). In 2011, the succession rate of CEOs of poorly performing companies was consistent with the prior trend at 13 percent. The succession rate of CEOs of better performing companies varied from 7 percent in 2002 to 12 percent in 2009 (on average, 10 percent for the period covered). In 2011, the succession rate of CEOs of poorly performing companies was 10 percent.

CEO age as a determinant The probability of CEO succession is higher for CEOs who are at least 64 years of age than for younger CEOs. In the 2000–2011 period, the succession rate of CEOs who are at least 64 years old ranged from 29 percent in 2011 to 9 percent in 2008 (on average, 18 percent over the period), while the succession rate of younger CEOs ranged from 8 percent in 2011 to 13 percent in 2005 (on average, 10 percent over the period). The rate of CEO succession for younger CEOs is remarkably consistent across the sample.

Business industry as a determinant The rate of CEO succession is rather consistent across most industry groups during the 12-year sample period. While companies in the services industries exhibit a succession rate of 13 percent, this rate is not statistically different from the mean rate of 11 percent. The extraction industry, which includes mining, petroleum-based products, and natural gas companies, is the only sector to exhibit a succession rate (8 percent) that is statistically different from the mean.

Departing CEO age Across the 2000–2011 sample period, the average departing CEO was 60 years old. In 2011, the average age of the departing CEO in the S&P 500 was 60.

Departing CEO tenure The average tenure of a departing CEO has declined from approximately 10 years in 2000 to 8 years in 2011.

Disciplinary and nondisciplinary departures The rate of CEO dismissals varies widely across the 2000–2011 period: rates range from 40 percent in 2002 to 16 percent in 2005 (on average, 28 percent for the period). Despite the varying trend, the rate of CEO dismissals for the 2000–2005 period (29 percent) and the rate for the 2006–2011 period (28 percent) are similar. Since 2008, which roughly coincides with the beginning of the financial crisis, 29 percent of all succession events were associated with CEO dismissals.

Incoming CEO age Across the sample period, the average incoming CEO was 53 years old. In 2011, in particular, the average age of the incoming CEO in the S&P 500 was 52. It is uncommon for a company to appoint an incoming CEO who is at least 62 years old―less than 5 percent of incoming CEOs fit this description.

Inside promotions and outside hires In 2011, 19 percent of successions involved an outsider CEO appointment, which is consistent with the continuing trend in the hiring of outsiders that has been recorded since the 1970s.

Tenure-in-company of insiders Across the sample period, the average tenure-in-company of an insider promoted to CEO was 15 years. In 2011, 32 percent of insider CEO appointments involved a "seasoned executive," which, for the purposes of this study, is defined as an executive with tenure in the company exceeding 20 years. The tendency to appoint a seasoned executive as incoming CEO is related to firm performance; only 7 percent of incoming CEOs in poor-performing companies were seasoned executives, compared with 43 percent of incoming CEOs in companies performing better.

Professional qualifications and skills When announcing a transition, nearly all of the 55 boards in the 2011 sample emphasized the professional qualifications of the incoming CEO, often through a description of his or her professional career and educational background. In addition, leadership abilities (found in 42 percent of the reviewed press releases containing succession announcements) and a focus on creating firm value for shareholders (42 percent) were frequently discussed. It appears that succession announcements tend to emphasize characteristics of the incoming CEO that are desirable, given the firm's current position.

Joint election as board chairman Only 19 percent of the 55 successions in 2011 involved the immediate joint appointment of an individual as CEO and chairman of the board of directors. Based on reviewed succession announcements, the majority of departing CEOs remained as board chairman for at least a brief transition period, typically until the next shareholder meeting.

Board oversight structure Few companies have a dedicated, stand-alone committee of the board for CEO succession planning oversight. Instead, approximately 50 percent of the examined sample of companies indicated that these activities were performed by the full board (44.3 percent of financial services companies and approximately 56 percent of both manufacturing and nonfinancial services companies). Larger companies were more likely to assign succession planning oversight responsibilities to the compensation committee.

Frequency of review In all industries and size groups, a majority of boards review the CEO succession planning process at least annually.

CEO auditioning Surveyed companies reported an infrequent use of CEO "audition" practices (i.e., the board of directors trains and tests an outside candidate through temporary assignments as chief operating officer or chief financial officer). However, larger companies were more likely to use it than smaller ones.

Mandatory CEO retirement policy A mandatory CEO retirement policy based on age is an unlikely element of CEO succession plans. Only 13 percent of manufacturing companies and 11 percent of nonfinancial services companies adopt an age-based mandatory retirement policy for CEOs; the percentage is lower in the financial sector. The highest level of policy adoption (20 percent) is reported by companies with assets of at least $100 billion.

Board retention of retiring CEO Across industries, the majority of surveyed companies indicated that they do not have a formal policy regulating the retention of retiring CEOs on the board. There is a clear direct correlation between the adoption of such policies and the size of the company, with as many as 60 percent of companies with assets of at least $100 billion requiring that the CEO leave the board as part of his or her succession plan.

Access to management without board approval Nearly all surveyed companies, with no significant differences across industries and revenue groups, confirmed that their board members have direct access to management below the CEO level without CEO approval.

Succession planning disclosure Approximately 27 percent of companies in the financial services industry included information on CEO succession planning in their annual disclosure to shareholders. The use of disclosure was lower for manufacturing (20 percent) and nonfinancial services (24 percent) companies. There is a direct correlation between disclosure practices and company size, as larger companies are more likely to include this information in the annual report: approximately 40 percent of respondents in the largest asset group indicated that they provide the disclosure. However, the format (e.g., proxy statement, annual report, press release), the frequency (e.g., annually, when circumstances change), and the extent of the disclosure remain unclear.

Responsibility for succession announcement The chairman of the board is the director who most frequently (62 percent of the succession cases in 2011) introduced the incoming CEO to the company's stakeholders. In 56 percent of these announcements, the chairman is also the departing CEO, which may create the appearance that the departing CEO himself is announcing the change in power. Perhaps to avoid this situation, the announcement was made by the lead independent director in 29 percent of cases. The remaining succession announcements simply state that a new CEO has been appointed without further introduction from the board or departing CEO.

Succession effective date Of the 55 succession announcements among S&P 500 companies in 2011, 50 percent stated that the transition in chief executive is effective immediately, increasing from 38 percent in the 2009–2010 period. The remaining 50 percent of companies provided stakeholders with advanced notice of a CEO succession. Of these companies, the mean (median) lead time to the succession event becoming effective is two months, although it ranged from as few as one week to as long as seven months' notice.

Stated reasons for CEO departure Forty-four percent the 55 succession announcements among S&P 500 companies in 2011 linked the departure of the CEO to retirement. For comparison, if retirement is defined by departing CEO age (CEO age is at least 64 years), approximately 10 percent of CEO departures are due to "retirement." This comparison highlights two possibilities: a number of departing CEOs retire before the age of 64, and/or the stated reasons for the departure in a company's CEO succession announcement are less than reliable. Twenty percent of succession announcements linked the departure of the CEO to resignation. Twenty-two percent of succession announcements do not provide a reason for the CEO's departure.

Stated role of the board in CEO succession planning Perhaps surprising, only 32 percent of the 55 succession announcements made in 2011 by S&P 500 companies explicitly stated that the incoming CEO was identified through the board's succession planning process.

Director and management changes in conjunction with CEO succession Of the 55 succession announcements made in 2011 by S&P 500 companies, 50 percent indicated that the CEO change would be accompanied by additional changes at the director or senior management level.

May 14, 2012
Accredited Investor Definition
by Mark Astarita

The question keeps coming up, so I thought a new blog post was in order. The question- what is the definition of an accredited investor for purposes of Reg D?

For years, the definitions that most are familiar with are:

  • a natural person who has individual net worth, or joint net worth with the person's spouse, that exceeds $1 million at the time of the purchase, excluding the value of the primary residence of such person; OR
  • natural person with income exceeding $200,000 in each of the two most recent years or joint income with a spouse exceeding $300,000 for those years and a reasonable expectation of the same income level in the current year

The confusion apparently stems from a 2011 amendment to the definition under Dodd Frank which excluded the value of the investor's home from the calculation of net worth. An investors' home is no longer included in the calculation.

The earnings definition remains the same, despite the passage of time, but the Commission is now required to review the accredited investor definition in its entirety every 4 years.

The original release is at SEC Adopts Net Worth Standard for Accredited Investors Under Dodd-Frank Act; 2011-274

The definition itself is contained in Rule 501(a) of the Securities Act of 1933.

View today's posts

5/11/2012 posts

Delaware Corporate and Commercial Litigation Blog: Recent Developments in Delaware Corporate and Alternative Entity Law
Insight: Midseason Update on Proxy Access
Blogmosaic: What to Expect When You're Expecting the SEC
SEC Actions Blog: This Week In Securities Litigation (Week ending May 11, 2012) Blog: Say-on-Pay: Failures #9-14 in US; Things Getting Heated Overseas
Race to the Bottom: Delaware Courts and the "Protection" of Investors
The Harvard Law School Forum on Corporate Governance and Financial Regulation: Short Sellers, News, and Information Processing
The Harvard Law School Forum on Corporate Governance and Financial Regulation: JOBS Act Applies to Debt-Only Issuers
The Harvard Law School Forum on Corporate Governance and Financial Regulation: CEO Succession Practices
The Securities Law Blog: Accredited Investor Definition

Blog posts are subject to copyrights held by the authors and are republished here with permission. Views expressed are those of the authors alone. Infringement Notification.