Yearly Archives: 2013

CFTC’s Progress on Wall Street Reform

Posted by Gary Gensler, Chairman of the Commodity Futures Trading Commission, on
Monday, March 4, 2013
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Gary Gensler is chairman of the Commodity Futures Trading Commission. This post is based on Chairman Gensler’s testimony before the U.S. Senate Committee on Banking, Housing, and Urban Affairs, available here.

The New Era of Swaps Market Reform

This hearing is occurring at an historic time in the markets. The CFTC now oversees the derivatives marketplace — across both futures and swaps. The marketplace is increasingly shifting to implementation of the common-sense rules of the road for the swaps market that Congress included in the Dodd-Frank Act.

For the first time, the public is benefiting from seeing the price and volume of each swap transaction. This post-trade transparency builds upon what has worked for decades in the futures and securities markets. The new swaps market information is available free of charge on a website, like a modern-day ticker tape.

For the first time, the public will benefit from the greater access to the markets and the risk reduction that comes with central clearing. Required clearing of interest rate and credit index swaps between financial entities begins next month.

For the first time, the public will benefit from specific oversight of swap dealers. As of today, 71 swap dealers are provisionally registered. They are subject to standards for sales practices, recordkeeping and business conduct to help lower risk to the economy and protect the public from fraud and manipulation. The full list of registered swap dealers is on the CFTC’s website, and we will update it as more entities register.

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Target CEO Retention in Acquisitions Involving Private Equity Acquirers

Posted by R. Christopher Small, Co-editor, HLS Forum on Corporate Governance and Financial Regulation, on
Monday, March 4, 2013
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The following post comes to us from Leonce Bargeron, Frederik Schlingemann, and Chad Zutter, all of the Finance Group at University of Pittsburgh, and René Stulz, Professor of Finance at Ohio State University.

In the paper, Does Target CEO Retention in Acquisitions Involving Private Equity Acquirers Harm Target Shareholders?, which was recently made publicly available on SSRN, we examine whether target shareholders are affected adversely when the target CEO is retained by the acquirer and if the effect differs when the acquisition involves a private equity firm. We find that private equity acquirers are more likely to retain target CEOs, and, given an acquisition is made by a private equity firm, target shareholders receive a higher premium when the CEO is retained. The difference in premium is economically large as it corresponds to 10% to 23% of pre-acquisition firm value.

The reason for this higher premium is that the CEOs retained by private equity acquirers appear to be CEOs who have performed better and hence can add more value to the firm that results from the acquisition. Further, a CEO who is retained cannot compete with her former firm and we show that the premium paid if a CEO is not retained falls with the ease with which that CEO can compete with her former firm. The fact that better CEOs are more likely to be retained and that targets receive higher premiums when the CEO is retained is inconsistent with the view that the target CEO conflict of interest leads to inefficient retention of CEOs in exchange of lower premiums.

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EU Financial Transaction Tax Proposed for 11 Member States

Posted by Noam Noked, co-editor, HLS Forum on Corporate Governance and Financial Regulation, on
Sunday, March 3, 2013
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The following post comes to us from Iain Scoon, partner in the Tax Group at Shearman & Sterling LLP, and is based on a Shearman & Sterling client publication.

The European Union Financial Transaction Tax (EU FTT) is back on the agenda. While only 11 EU member states will now apply the EU FTT, the effect is likely to be felt more widely.

The Directive on the EU FTT that was originally proposed in September 2011 would have covered all 27 EU member states. Following opposition from several member states, a group of 11 – Austria, Belgium, Estonia, France, Germany, Greece, Italy, Portugal, Slovakia, Slovenia and Spain (together, the FTT Zone) – have pressed on under the little-used “enhanced cooperation” procedure, whereby some EU member states can adopt a Directive that does not apply to the other member states.

The European Commission published a revised draft Directive on 14 February 2013 to implement the EU FTT in the FTT Zone. The draft Directive will require unanimous agreement between the FTT Zone states. If agreement is obtained, the EU FTT is proposed to come into force on 1 January 2014.

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Addressing Market Instability through Informed and Smart Regulation

Posted by Luis A. Aguilar, Commissioner, U.S. Securities and Exchange Commission, on
Saturday, March 2, 2013
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Luis A. Aguilar is a Commissioner at the U.S. Securities and Exchange Commission. This post is based on Commissioner Aguilar’s remarks at the Practicing Law Institute’s SEC Speaks in 2013 Program; the full text, including footnotes, is available here. The views expressed in the post are those of Commissioner Aguilar and do not necessarily reflect those of the Securities and Exchange Commission, the other Commissioners, or the Staff.

As many of you know, I am now in my second term as an SEC Commissioner and this is my fifth time participating at SEC Speaks. During that time, I have served with three different SEC Chairmen, and a fourth is now in the works. It has been, and continues to be, a great privilege to serve at a time during which the SEC’s role as the capital markets regulator has never been more important. However, I must admit being frustrated that we haven’t done more to protect investors.

Clearly, my tenure as a Commissioner has been dramatically impacted by the financial crisis and the pressing need to address the many failings that were brought to light by that crisis. Throughout my tenure, I have worked to be a strong advocate for fulfilling the Commission’s mission to protect investors, facilitate capital formation, and promote a fair and orderly market. To that end, I want to talk to you today about the need to protect investors through robust and effective market oversight.

I am growing increasingly concerned about the stability of our market structure as we lurch from one crisis to another, be it the flash crash or the Knight trading fiasco. Today, I plan to focus on the dangers that investors face from a trading market structure that has shown too many signs of weakness and instability.

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Supreme Court on Statute of Limitations for SEC Enforcement Actions

Posted by Noam Noked, co-editor, HLS Forum on Corporate Governance and Financial Regulation, on
Friday, March 1, 2013
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The following post comes to us from Jay B. Kasner, head of the Securities Litigation Practice at Skadden, Arps, Slate, Meagher & Flom, and is based on a Skadden memorandum by Mr. Kasner, Matthew J. Matule, Edward B. Micheletti, and Peter B. Morrison.

Gabelli v. Sec. & Exch. Comm’n, No. 11-1274 (U.S. Feb. 27, 2013)

In a unanimous opinion authored by Chief Justice Roberts, the U.S. Supreme Court held that the five-year limitations period that governs SEC enforcement actions begins to run when the alleged fraud is complete. The Court reversed the Second Circuit on the issue, which had held that the discovery rule applied in cases where the defendant allegedly committed fraud. The SEC alleged that two mutual fund managers allowed one of the fund’s investors to engage in market timing in the fund in exchange for an investment in a separate hedge fund, but the SEC filed the action more than five years after the conduct was alleged to have taken place. The Court explained that limitations periods ordinarily begin to run upon a party’s injury, but in cases of fraud — when the injury itself is concealed — courts have developed the discovery rule to protect individuals, who are after all not required to be in a constant state of investigation. That rationale however does not apply to the SEC, whose mission is to investigate (and prevent) fraud and which has statutory authority to demand detailed records, including those extra-judicial subpoenas. Therefore, the Court concluded the discovery rule does not apply to the SEC.

Click here to view the opinion.

Supreme Court Rules on Proof of Materiality for Class Certification

Posted by Noam Noked, co-editor, HLS Forum on Corporate Governance and Financial Regulation, on
Friday, March 1, 2013
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The following post comes to us from Jay B. Kasner, head of the Securities Litigation Practice at Skadden, Arps, Slate, Meagher & Flom, and is based on a Skadden memorandum by Mr. Kasner, Peter B. Morrison, Matthew J. Matule, and Edward B. Micheletti.

On February 27, 2013, in a 6-3 decision, the Supreme Court of the United States held in Amgen Inc. v. Connecticut Retirement Plans and Trust Funds that a securities fraud plaintiff alleging fraud on the market need not establish the materiality of an alleged fraudulent statement in order to obtain class certification. Justice Ginsburg delivered the opinion of the Court, and Justices Scalia, Thomas and Kennedy dissented.

The particular questions presented by the Supreme Court’s grant of certiorari were whether, in a misrepresentation case under SEC Rule 10b-5, a securities fraud plaintiff alleging fraud on the market must establish materiality of the misstatements in order to obtain class certification and whether, in such a case, the district court must allow the defendant to present evidence rebutting the applicability of the fraud-on-the-market theory before certifying a plaintiff class based on that theory.

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What Motivates Minority Acquisitions?

Posted by R. Christopher Small, Co-editor, HLS Forum on Corporate Governance and Financial Regulation, on
Friday, March 1, 2013
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The following post comes to us from Paige Parker Ouimet of the Finance Division at the Kenan-Flagler Business School, the University of North Carolina at Chapel Hill.

What motivates minority acquisitions? We study the trade-off between minority acquisitions, involving less than 50% of the target, and majority acquisitions in the forthcoming Review of Financial Studies paper, “What Motivates Minority Acquisitions? The Trade-Offs between a Partial Equity Stake and Complete Integration.” Minority acquisitions have been shown to facilitate cooperation between two independent firms. For example, Allen and Phillips (2000) and Fee, Hadlock, and Thomas (2006) show that a minority acquisition can align the incentives of the acquirer with those of the target. However, similar benefits can also be achieved with a majority acquisition, suggesting that minority stakes are also motivated as a means to avoid certain costs associated with majority control.

Using a sample of 2,166 deals, we identify several key predictors in the choice between a minority or majority acquisition. The key insight provided in this paper is the importance of costs associated with the dilution to target managerial incentives following a majority acquisition in selecting the mode of acquisition. Evidence that firms are willing to forgo benefits to control to preserve target incentives speaks to the value of these incentives.

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Prominent Role for Leverage Ratio in Capital Framework

Posted by Jeremiah O. Norton, Director, Federal Deposit Insurance Corporation, on
Thursday, February 28, 2013
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Jeremiah O. Norton is a member of the Board of Directors of the Federal Deposit Insurance Corporation. This post is based on Director Norton’s recent remarks to the Florida Banker’s Association in Orlando, FL; the full text, including footnotes, is available here. The views expressed in this post are those of Director Norton and should not be attributed to the FDIC as a whole or any other members or staff.

Introduction

As the banking industry emerges from the 2008 financial crisis, there is no question that it caused great strain on banks of all sizes. Hundreds of community banks failed, and the largest institutions were unable to continue operating without massive, unprecedented government intervention. This region in particular experienced the full impact of the crisis and the stress it placed on small institutions. A key ingredient in the market disruption was inadequate capital protection. Looking forward, it is important that the regulatory community arrive at a capital framework that is appropriate for the range and complexity of risks in today’s financial system.

As someone who served on the Treasury Department’s crisis response team in 2008, it became clear that the market was punishing firms and business models that took on too much risk without sufficient capitalization. Yet, upon returning recently to government service I have been surprised at what I see as a lack of progress towards constraining excessive leverage. Some policymakers point to advancements in the Basel III agreement, developed by the Basel Committee on Banking Supervision, which implements a global leverage ratio for the first time. However, I think that it is difficult to argue that achieving a Tier 1 leverage ratio of three percent my 2018 is significant reform, particularly as this leverage ratio requirement is not solely anchored in tangible common equity.

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Regulation FD in the Age of Facebook and Twitter

Posted by Joseph Grundfest, Stanford Law School, on
Thursday, February 28, 2013
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Joseph A. Grundfest is the W. A. Franke Professor of Law and Business at Stanford University Law School.

The Staff of the Securities and Exchange Commission has announced its intention to recommend to the Commission that enforcement proceedings alleging a violation of Regulation FD be instituted against Netflix, Inc. and its CEO, Reed Hastings, because of a posting on Mr. Hastings’ personal Facebook page. Mr. Hastings’ webpage had more than 200,000 followers, including reporters who covered the posting in the traditional press. The posting was also the subject of a tweet by TechCrunch, which has approximately 2.5 million followers on Twitter.

This article, Regulation FD in the Age of Facebook and Twitter: Should the SEC Sue Netflix?, is in the form of an amicus Wells Submission suggesting that the Commission would, for nine distinct reasons, be prudent not to initiate an action on the facts of the Netflix posting. In particular, the public record suggests that the posting did not contain material information, was not a selective disclosure, and because of its spread through social media constituted a “broad non-exclusionary distribution” that did not violate Regulation FD. A prosecution would also diverge dramatically from all prior Regulation FD enforcement proceedings, and would violate the Commission’s prior representations not to “second guess” good faith efforts to comply with Regulation FD. In addition, the posting is not inconsistent with the Commission’s 2008 Guidance on the Use of Company Webpages — guidance that is seriously outdated because of the emergence of social media.

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Carrots & Sticks: How VCs Induce Entrepreneurial Teams to Sell Startups

Posted by Jesse Fried, Harvard Law School,, on
Wednesday, February 27, 2013
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Jesse Fried is a Professor of Law at Harvard Law School, and Brian Broughman is an Associate Professor of Law at the Maurer School of Law at Indiana University, Bloomington.

Venture capitalists (VCs) play a significant role in the financing of high-risk, technology-based business ventures. VC exits usually take one of three forms: an initial public offering (IPO) of a portfolio company’s shares, followed by the sale of the VC’s shares into the public market; a “trade sale” of the company to another firm; or dissolution and liquidation of the company.

Of these three types of exits, IPOs have received the most scrutiny. This attention is not surprising. IPO exits tend to involve the largest and most visible VC-backed firms. And, perhaps just as importantly, the IPO process triggers public-disclosure requirements under the securities laws, making data on IPO exits easily accessible to researchers.

But trade sales are actually much more common than IPOs and, in aggregate, are more financially important to VCs. Unlike IPOs, however, trade sales do not trigger the intense public-disclosure requirements of the securities laws; they take place in the shadows. Thus, although trade sales play a critical role in the venture capital cycle, relatively little is known about them.

In our paper, Carrots & Sticks: How VCs Induce Entrepreneurial Teams to Sell Startups recently made public on SSRN, Brian Broughman and I seek to shine more light on intra-firm dynamics around trade sales. In particular, we investigate how VCs induce the “entrepreneurial team” – the founder, other executives, and common shareholders – to go along with a trade sale that they might have an incentive to resist.

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