Yearly Archives: 2014

The SEC’s Refocus on Accounting Irregularities

Posted by Noam Noked, co-editor, HLS Forum on Corporate Governance and Financial Regulation, on
Monday, January 27, 2014
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The following post comes to us from Paul A. Ferrillo, counsel at Weil, Gotshal & Manges LLP specializing in complex securities and business litigation, and is based on an article by Mr. Ferrillo, Christopher Garcia, and Matthew Jacques of AlixPartners that first appeared in D&O Diary.

On July 2, 2013, the United States Securities and Exchange Commission (the SEC) announced two new initiatives aimed at preventing and detecting improper or fraudulent financial reporting. [1] We previously noted that one of these initiatives, a computer-based tool called the Accounting Quality Model (AQM, or “Robocop”), [2] is designed to enable real-time analytical review of financial reports filed with the SEC in order to help identify questionable accounting practices.

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ISS Releases FAQs: Defensive Bylaw May Lead to Negative Vote Recommendations

Posted by Noam Noked, co-editor, HLS Forum on Corporate Governance and Financial Regulation, on
Sunday, January 26, 2014
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The following post comes to us from Rebecca Grapsas, senior associate in the Corporate Department of Weil, Gotshal & Manges LLP, and is based on a Weil alert.

Public companies that have recently adopted or are considering adopting bylaws that disqualify director nominees who receive compensation from anyone other than the company should be aware of new FAQs released yesterday by Institutional Shareholder Services (ISS) and the potential impact the FAQs may have on forthcoming director elections. Such bylaws typically operate in conjunction with advance notice bylaws that require proponents to disclose compensation arrangements with their nominees. Compensation payable by a third party for director candidacy and/or board service—for example, by an insurgent in a contested director election—may call into question a director’s undivided loyalty to the company and all of its shareholders.

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The Two Faces of Materiality

Posted by June Rhee, Co-editor, HLS Forum on Corporate Governance and Financial Regulation, on
Saturday, January 25, 2014
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The following post comes to us from Richard A. Booth, Martin G. McGuinn Professor of Business Law of Villanova University School of Law.

In order to prove securities fraud under federal law, one must show that the defendant either misrepresented a material fact or omitted to state a material fact when under a duty to speak. The fact must somehow matter to investors. But the courts have struggled mightily to determine when a fact is material.

On the one hand, the Supreme Court has held that a fact is material if it would be important to a reasonable investor in deciding how to act—how to vote or whether to trade. The information need not be so important that it would change the outcome. But it cannot be so trivial that it would not affect the total mix of available information. Moreover, it must matter in the sense that an investor can do something with the information. For example, although the fact that a merger lacks a business purpose or that the board of directors thinks the price is low might be important in some sense, these facts may not be material if the investor has no vote on the matter or the controlling stockholder has enough votes to assure approval.

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Basel Committee’s Revisions to the Basel III Leverage Ratio

Posted by Margaret E. Tahyar, Davis Polk & Wardwell LLP, on
Friday, January 24, 2014
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Margaret E. Tahyar is a partner in the Financial Institutions Group at Davis Polk & Wardwell LLP. The following post is based on the introduction to a Davis Polk client memorandum by Luigi L. De Ghenghi and Andrew S. Fei; the full publication, including visuals, tables, timelines and formulas, is available here.

In January 2014, the Basel Committee on Banking Supervision finalized its revisions to the Basel III leverage ratio. Compared to its June 2013 proposed revisions, the Basel Committee has made several important changes to the denominator of the Basel III leverage ratio, including with respect to the treatment of derivatives, securities financing transactions and certain off-balance sheet items.

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How Does Corporate Governance Affect Bank Capitalization Strategies?

Posted by R. Christopher Small, Co-editor, HLS Forum on Corporate Governance and Financial Regulation, on
Friday, January 24, 2014
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The following post comes to us from Deniz Anginer of the Department of Finance at Virginal Tech, Asli Demirgüç-Kunt, Director of Research at the World Bank; Harry Huizinga, Professor of Economics at Tilburg University; and Kebin Ma of the World Bank.

In our paper, How Does Corporate Governance Affect Bank Capitalization Strategies?, which was recently made publicly available on SSRN, we examine how corporate governance and executive compensation affect bank capitalization strategies for an international sample of banks over the 2003-2011 period.

We find that ‘good’ corporate governance—or corporate governance that causes the bank to act in the interests of bank shareholders—engenders lower levels of bank capital. Specifically, we find that bank boards of intermediate size (big enough to escape capture by management, but small enough to avoid free rider problems within the board), separation of the CEO and chairman of the board roles, and an absence of anti-takeover provisions lead to lower capitalization rates. ‘Good’ corporate governance thus may be bad for bank stability and potentially entail high social costs. This disadvantage of ‘good’ corporate governance has be balanced with presumed benefits in terms of restricting management’s ability to perform less badly in other areas—for instance, by shirking or acquiring perks—at the expense of bank shareholders.

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Boardroom Confidentiality Under Focus

Posted by David A. Katz, Wachtell, Lipton, Rosen & Katz, on
Thursday, January 23, 2014
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David A. Katz is a partner at Wachtell, Lipton, Rosen & Katz specializing in the areas of mergers and acquisitions and complex securities transactions. This post is based on an article by Mr. Katz and Laura A. McIntosh that first appeared in the New York Law Journal; the full article, including footnotes, is available here.

In our Age of Communication, confidential information is more easily exposed than ever before. Real-time communication tools and social media give everyone with Internet access the ability to publicize information widely, and confidential information is always at risk of inadvertent or intentional exposure. The current cultural emphasis on transparency and disclosure—punctuated by headline news of high-profile leakers and whistleblowers, and exacerbated in the corporate context by aggressive activist shareholders and their director nominees—has contributed to an atmosphere in which sensitive corporate information is increasingly difficult to protect. There is limited statutory or case law to guide boards and directors in this area, and there exists a range of opinions among market participants and media commentators as to whether leaking information (other than illegal insider tipping) is problematic at all.

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Halliburton v. Erica P. John Fund—Former Members of Congress Supporting Neither Party

Posted by Robert Giuffra, Sullivan & Cromwell LLP, on
Thursday, January 23, 2014
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Robert Giuffra is a partner in Sullivan & Cromwell’s Litigation Group. The following post is based on an amicus brief filed by Sullivan & Cromwell in the case of Halliburton Co. v. Erica P. John Fund, Inc. The Supreme Court’s expected reconsideration of Basic is also discussed in a Harvard Law School Discussion Paper by Professors Lucian Bebchuk and Allen Ferrell, Rethinking Basic, discussed on the Forum here.

Sullivan & Cromwell LLP filed an amicus brief on January 6, 2014 with the U.S. Supreme Court in the case of Halliburton Co. v. Erica P. John Fund, Inc., No. 13-317. This brief is submitted on behalf of former members of Congress, SEC officials and congressional counsel involved in the drafting of the Private Securities Litigation Reform Act (PSLRA) of 1995. In Amgen, Justice Ginsburg, for the majority, characterized the PSLRA’s silence on the Basic fraud-on-the-market presumption as a “reject[ion]” of “calls to undo” Basic. 133 S. Ct. at 1200 (Amgen, p. 20, available here). In opposing cert in Halliburton (see brief in opposition of certiorari, pages 32-33, available here), plaintiffs referenced Congress’s silence in the PSLRA as acquiescence in Basic‘s presumption. This congressional acquiescence argument could be critical to the decision in Halliburton, which could be one of the most important securities cases in years.

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CEO Connectedness and Corporate Frauds

Posted by R. Christopher Small, Co-editor, HLS Forum on Corporate Governance and Financial Regulation, on
Thursday, January 23, 2014
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The following post comes to us from Vikramaditya Khanna, Professor of Law at the University of Michigan; E. Han Kim, Professor of Finance at the University of Michigan; and Yao Lu of the Department of Finance at Tsinghua University.

The collective behavior of corporate leaders is often critical in corporate wrongdoing, and the CEO often plays the central role. Yet there is no comprehensive study exploring how CEOs and their influence within executive suites and the boardroom impact corporate wrongdoing. In our paper, CEO Connectedness and Corporate Frauds, which was recently made publicly available on SSRN, we focus on the effects of CEOs’ social influence accumulated during the CEO’s tenure through top executive and director appointment decisions.

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The Value of Corporate Culture

Posted by R. Christopher Small, Co-editor, HLS Forum on Corporate Governance and Financial Regulation, on
Wednesday, January 22, 2014
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The following post comes to us from Luigi Guiso, Professor of Finance at the Einaudi Institute for Economics and Finance; Paola Sapienza, Professor of Finance at Northwestern University; and Luigi Zingales, Professor of Finance at the University of Chicago.

In our recent NBER working paper, The Value of Corporate Culture, we study which dimensions of corporate culture are related to a firm’s performance and why. Resigning from Goldman Sachs, vice president Greg Smith wrote in a very controversial New York Times op-ed: “Culture was always a vital part of Goldman Sachs’s success. It revolved around teamwork, integrity, a spirit of humility, and always doing right by our clients. The culture was the secret sauce that made this place great and allowed us to earn our clients’ trust for 143 years.” He then adds “I am sad to say that I look around today and see virtually no trace of the culture that made me love working for this firm for many years.” In his follow-up book, Greg Smith seems to blame the demise of Goldman Sachs’s culture to its transformation from a partnership to a publicly traded company.

While highly disputed by the company, Greg Smith’s remarks raise several important questions. What constitutes a firm’s culture? How can we measure it? Does this culture—however defined and measured—impact a firm’s success? If so, why? And how can different governance structures enable or curtail the formation and preservation of a value-enhancing culture? In this paper we try to answer these questions.

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“Greenmail” Makes a Comeback

Posted by Noam Noked, co-editor, HLS Forum on Corporate Governance and Financial Regulation, on
Wednesday, January 22, 2014
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The following post comes to us from Spencer D. Klein, partner in the Corporate Department and co-chair of the global Mergers & Acquisitions Group at Morrison & Foerster LLP, and is based on a Morrison & Foerster publication by Mr. Klein and Enrico Granata.

The much-maligned 1980s tactic of “greenmail” [1] appears to have made a comeback in 2013. “Greenmail” has generally been defined as the practice of purchasing enough shares in a company to threaten a takeover, and then using that leverage to pressure the target company to buy those shares back at a premium in order to abandon the takeover. Today’s variety of greenmail does not always involve the threat of a takeover, but instead typically involves the actual or implied threat of a proxy contest that would effect major corporate change.

In just the last few months, several noted activist investors have profited handsomely by selling shares back to their target companies, including, among others, Icahn Associates with respect to its stake in WebMD and Corvex Management with respect to its stake in ADT.

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