Monthly Archives: March 2010

Treasury Proposes “Volcker Rule” Legislative Text

Annette Nazareth is a partner in the Financial Institutions Group at Davis Polk & Wardwell LLP. This post is based on a Davis Polk client memorandum.

On March 3, 2010, the Department of the Treasury delivered to the Hill proposed legislative text to implement the “Volcker Rule” announced by the Obama Administration on January 21st. The following bullets briefly summarize the provisions of Treasury’s proposal, which takes the form of new sections 13 and 13a of the Bank Holding Company Act of 1956.

Prohibition on Proprietary Trading

Not self-executing. The “appropriate Federal banking agencies” are directed by statute to prohibit proprietary trading by covered companies.

Who is covered?

  • Insured banks and thrifts; bank, thrift and other depository institution holding companies; and any company “treated as a bank holding company for purposes of the [Bank Holding Company Act]”, including
    • foreign banks with a U.S. branch, agency or commercial lending company subsidiary (but subject to Section 4(c)(9) exemption discussed below).
  • Broker-dealers and other non-bank affiliates appear not to be subject to the prohibition, but their proprietary trading may be subject to additional capital requirements and quantitative limits as discussed below.


Regulatory Dualism as a Development Strategy

This paper comes to us from Ronald Gilson, Professor of Law and Business at Stanford and Columbia Law Schools, Henry Hansmann, Professor of Law at Yale Law School, and Mariana Pargendler, JSD Candidate at Yale Law School.

In our paper Regulatory Dualism as a Development Strategy: Corporate Reform in Brazil, the U.S., and the EU, which was recently made publicly available on SSRN, we examine the promise of regulatory dualism as a strategy to diffuse the tension between future growth and the current distribution of wealth and power. Countries pursuing economic development confront a fundamental obstacle. Reforms that increase the size of the overall pie are blocked by powerful interests that are threatened by the growth-inducing changes. This problem is conspicuous in efforts to create effective capital markets to support economic growth. Controlling owners and managers of established firms successfully oppose corporate governance reforms that would improve investor protection and promote capital market development.

Regulatory dualism seeks to mitigate political opposition to reforms by permitting the existing business elite to be governed by the old regime, while allowing other firms to be regulated by a new parallel regime that is more efficient. Regulatory dualism goes beyond similar but simpler strategies, such as grandfathering and statutory menus, by incorporating a dynamic element that is key to its effectiveness, but that requires a sophisticated approach to implementation.


Proxy Solicitation Through The Internet

James Morphy is a partner at Sullivan & Cromwell LLP specializing in mergers & acquisitions and corporate governance. This post is based on a Sullivan & Cromwell client memorandum.

On February 22, 2010, the SEC adopted amendments to the Internet proxy delivery rules in order to increase retail shareholder participation in the proxy voting process and to improve the notice and access model. The amendments will:

  • provide flexibility regarding the format and content of the Notice of Internet Availability of Proxy Materials;
  • permit issuers and other soliciting persons to accompany the Notice of Internet Availability of Proxy Materials with an explanation of the reasons for the use of the notice and access model and the process of receiving and reviewing proxy materials and voting; and
  • permit a soliciting person other than the issuer to use the notice and access model and send its Notice of Internet Availability of Proxy Materials by the later of
    • 40 days before the shareholders meeting, or
    • the date on which the soliciting person files its definitive proxy statement if the soliciting person’s preliminary proxy statement is filed within 10 days of the issuer’s filing of its definitive proxy statement.

The amendments, which were adopted largely as proposed in October 2009, become effective 30 days following publication in the Federal Register. The SEC staff has indicated to us informally that they are considering whether early compliance with the new rules will be permitted.


The SEC’s New Short Sale Rule: Implications and Ambiguities

Annette Nazareth is a partner in the Financial Institutions Group at Davis Polk & Wardwell LLP. This post is based on a Davis Polk client memorandum.

After months of deliberation and consideration of several alternatives, the Securities and Exchange Commission (the “SEC” or “Commission”) announced on February 24, 2010 the adoption of a new short sale rule — Rule 201 of Regulation SHO (the “Rule” or “Rule 201”). The Rule institutes what the marketplace has termed a “circuit breaker with a passive upbid requirement” rather than a full-time restriction on short sales. The restriction goes into place upon a 10% decline in the price of an NMS stock from its previous day’s closing price. Rule 201 effectively restricts the display or execution by exchanges and other trading centers of a short sale order in such stock to a price above the national best bid for the remainder of the trading day and the next trading day (the “Price Restriction”). The Rule will be implemented through policies and procedures of trading centers and broker-dealers that are not, themselves, trading centers.

There are limited exceptions from the basic requirement, including for arbitrage and odd lot transactions, but far fewer exceptions than market participants had advocated. Notably, there is no exception for market making in NMS stocks or options market making.


Court Upholds Exclusion of 14a-8 Proposal For Deficient Proof of Stock Ownership

Trevor Norwitz is a partner in the Corporate Department at Wachtell, Lipton, Rosen & Katz, where he focuses on mergers and acquisitions, corporate governance and securities law matters. This post is based on a Wachtell Lipton firm memorandum by Mr. Norwitz and Gordon S. Moodie. The post relates to the case of Apache Corporation v. Chevedden, which was previously discussed on the Forum in this post.

In the first federal judicial decision addressing the requisite proof of share ownership for submission of proposals under Rule 14a-8, a U.S. District Court has upheld, on narrow grounds, a company’s exclusion of a shareholder proposal for failing to comply strictly with the proxy rules. Apache Corporation v. Chevedden, C.A. H-10-0076 (March 10, 2010).

The case involved a precatory shareholder proposal from activist John Chevedden to eliminate supermajority voting. To prove his eligibility to submit the proposal under the proxy rules (which require continuous ownership for one year of just $2,000 in market value of a company’s voting securities), Chevedden provided a letter from Ram Trust Services (RTS), his “introducing broker”. Apache rejected this as deficient because RTS was not a record holder of its stock and gave Chevedden the requisite 14 days to provide proper proof of ownership. Chevedden later – more than 14 days after the deficiency notice – gave Apache a letter from Northern Trust, RTS’ custodian participant in the Depository Trust Company (DTC), the registered holder of the shares in question. Apache asserted that it could exclude Chevedden’s proposal because neither RTS nor Northern Trust was a record holder. Rather than seeking a “no action” letter from the SEC staff, Apache filed suit seeking a declaratory judgment that only a letter from DTC, the actual registered holder, would suffice.


The New Enhanced Proxy Disclosure Rules: Putting More “A” and Less “D” in CD&A

Charles Nathan is Of Counsel at Latham & Watkins and is co-chair of the firm’s Corporate Governance Task Force. This post is based on a Latham & Watkins Corporate Governance Commentary by Mr. Nathan, Laurie Smilan and Scott Herlihy.

As the SEC staff has acknowledged, the new enhanced proxy disclosure rules — requiring information about board qualifications, leadership and oversight — are the latest installment in the ongoing effort to push companies to provide more “analysis” and not just “discussion” in their disclosures. They are also the latest installment in what some characterize as the SEC’s ongoing effort to regulate corporate governance by the imposition of targeted disclosure obligations, notwithstanding that the SEC lacks a clear mandate to regulate corporate governance, an area traditionally the province of state law’s more laissez-faire approach.

In crafting the new required disclosures about board qualifications, leadership and role in risk oversight both during the rapidly approaching 2010 proxy season, and also in preparing the Compensation Discussion and Analysis (CD&A) in current filings, boards and their advisors should heed the SEC’s not-so-positive feed back with respect to CD&A disclosure compliance. In that context, the SEC has lamented that “far too many companies continue to describe — in exhaustive detail — the framework in which they made the compensation decision, rather than the decision itself. The result is that the “how” and the “why” get lost in all the detail.” [1]


Performance-Based Incentives for Internal Monitors

David Larcker is the James Irvin Miller Professor of Accounting at Stanford University.

In the paper, Performance-Based Incentives for Internal Monitors, which was recently published on SSRN, my co-authors (Christopher Armstrong and Alan Jagolinzer) and I investigate the choice of performance-based incentives for the general counsel (GC) and chief internal auditor (IA) and assess whether these incentives enhance or impair monitoring.

We use proprietary and public data that provide details about the incentive-compensation contracts of the GC and the IA to identify the determinants of performance-based incentives of internal monitors. More importantly, we also examine the impact these incentives have on either alleviating or exacerbating agency problems within the firm. We draw inferences regarding the implications of compensating internal monitors with performance-based incentives using a propensity score matched-pair research design, which helps address econometric concerns related to the endogenous design of compensation contracts.


Committee On Capital Markets Regulation Proposes Fed-Regulated Clearinghouses To Reduce Systemic Risk

Editor’s Note: Hal Scott is the Director of the Program on International Financial Systems at Harvard Law School and the co-chair of the Committee on Capital Markets Regulation. This post relates to a letter from the Committee to the Chairmen and Ranking Members of the Senate Banking Committee and House Financial Services Committee; the letter is available here.

The Committee on Capital Markets Regulation (CCMR), an independent, non-partisan research organization and a leading proponent of carefully considered financial regulatory reform, has proposed a comprehensive approach to reforming regulatory oversight of derivatives markets to reduce systemic risk in the financial system, through greater use of derivatives clearinghouses, to be overseen by the Federal Reserve.

In a 28-page letter to the Chairmen and Ranking Members of the Senate Banking Committee and House Financial Services Committee, the CCMR has provided a framework for legislating on many of the largest and thorniest financial reform issues on the Congressional agenda.


Clearing House Association Joins Board of Governors of the Fed. v. Bloomberg

Paul Saltzman is Executive Vice President, General Counsel and Head of The Clearing House Association. Robert J. Giuffra, Jr. is a Partner at Sullivan & Cromwell LLP. Mr. Giuffra argued the Second Circuit appeal on behalf of The Clearing House Association. The opening and reply briefs of The Clearing House Association in the Second Circuit case are available here and here.

The Clearing House Association, a membership business league comprised of eleven of the largest financial institutions in the United States, is a party to the pending appeal in the United States Court of Appeals for the Second Circuit by the Board of Governors of the Federal Reserve System (the “Board”) in Board of Governors of the Federal Reserve System v. Bloomberg L.P., No. 09-4083 (2d Circuit, filed September 30, 2009) , which concerns whether the Freedom of Information Act (“FOIA”) requires the Board to disclose bank-by-bank and loan-by-loan information about borrowing by financial institutions with Federal Reserve Banks (“FRBs”). The Clearing House Association supports the Board’s position that FOIA Exemption 4 protects such competitively sensitive financial information from public disclosure. The Second Circuit held oral argument on January 11, 2010. The Association’s opening and reply memoranda in support of its appeal are available here and here.


Harvard Corporate Faculty Lead SSRN Rankings

Statistics released by the Social Science Research Network (SSRN) indicate that, as of the end of 2009, Harvard Law School faculty members associated with the Program on Corporate Governance led SSRN author rankings; they captured six of the top 100 slots – including the number one slot – among the top 100 law school professors (in all fields) in terms of readers’ use of their work.

Professor Lucian Bebchuk was ranked first among all law school professors, as well as sixth among all authors on SSRN. His papers (available on his SSRN page here) have attracted a total of more than 120,000 downloads.

In addition, the top 100 law professors included Professors Reinier Kraakman (ranked 15 among law school professors and 69 among all authors), Allen Ferrell (25 among law school professors, 130 among all authors), Jesse Fried (27 among law school professors, 139 among all authors), Mark Roe (34 among law school professors, 177 among all authors), and Alma Cohen (39 among law school professors, 195 among all authors).

SSRN is the leading electronic service for social science research, and its electronic library contains (as of December 2009) over 219,300 full-text documents by more than 85,000 authors.

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