Monthly Archives: March 2015

Supreme Court’s Omnicare Decision Muddies Section 11 Opinion Liability Standards

The following post comes to us from Jon N. Eisenberg, partner in the Government Enforcement practice at K&L Gates LLP, and is based on a K&L Gates publication by Mr. Eisenberg. The complete publication, including footnotes, is available here.

The Supreme Court has a long history of rejecting expansive interpretations of implied private rights of action under Section 10(b) of the Securities Exchange Act. Most notably, since 1975, it rejected the argument that mere holders, rather than only purchasers and sellers, may bring private damage actions under Section 10(b), rejected the argument that Section 10(b) liability may be imposed based on negligence rather than scienter, rejected the argument that Section 10(b) may be applied to “unfair” as opposed to fraudulent conduct, rejected the argument that purchase price inflation is enough to show damages under Section 10(b), rejected the argument that Section 10(b) reaches aiders and abettors rather than only primary violators, and rejected efforts to muddy the distinction between primary and secondary liability under Section 10(b).

The Court, however, has barely even mentioned Section 11 of the Securities Act in its opinions, much less interpreted it. Section 11, unlike Section 10(b), 1) provides an express private right of action, 2) is limited to misrepresentations and omissions in a registration statement, and 3) requires no proof of culpability although defendants other than an issuer have due diligence affirmative defenses. The Supreme Court’s March 24, 2015 decision in Omnicare, Inc. v. Laborers District Council Construction Industry Pension Fund, No. 13-435, is the Court’s first meaningful foray into Section 11. Unfortunately, the decision, which addresses opinion liability under Section 11, provides an amorphous standard that is likely to lead to unpredictable results. It should provide little comfort to plaintiffs or defendants and should make defendants more cautious about including unnecessary opinions in registration statements and, where appropriate, should lead them to carefully qualify opinions that they do include.

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Comparative Study on Economics, Law and Regulation of Corporate Groups

The following post comes to us from Klaus J. Hopt, a professor and director (emeritus) at the Max-Planck-Institute for Comparative and International Private Law, in Hamburg and was advisor inter alia for the European Commission, the German legislator and the Ministries of Finance and of Justice.

The phenomenon of the groups of companies is very common in modern corporate reality. The groups differ greatly as to structure, organization, and ownership. In the US, groups with 100-per cent-owned subsidiaries are common. In continental Europe, the parents usually own less of the subsidiaries, just enough to maintain control. In Germany and Italy pyramids are frequent, i.e., hierarchical groups with various layers of subsidiaries and subsidiaries of subsidiaries forming very complicated group nets. The empirical data on groups of companies are heterogeneous because they are collected for very different regulatory and other objectives, for example for antitrust and merger control regulation or for bank supervision.

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Preparing for the Regulatory Challenges of the 21st Century

Luis A. Aguilar is a Commissioner at the U.S. Securities and Exchange Commission. This post is based on Commissioner Aguilar’s recent remarks at the Georgia Law Review’s Annual Symposium, Financial Regulation: Reflections and Projections; 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.

During my tenure as an SEC Commissioner, our country’s economy has experienced extreme highs and lows. In fact, the country experienced the worst financial crisis since the Great Depression, followed by the current period of significant economic growth where the stock market has grown by around 165% from the low point of the financial crisis.

I have had a front-row seat to all of this, as I became an SEC Commissioner just weeks before the financial crisis hit our nation. As a result, I witnessed first-hand just how fragile our capital markets can be, and the need for a robust and effective SEC to protect them. First, let me provide a snapshot of what went on. I was sworn-in as an SEC Commissioner on July 31, 2008. Within a few weeks, on September 15, 2008, Lehman Brothers filed for bankruptcy. To give you a sense of its rapid decline, within 15 days, its share price went from $17.50 per share to virtually worthless. The demise of Lehman Brothers is often seen as the first in a rapid succession of events that led to an unimaginable market and liquidity crisis. These events included:

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The Governance Effect of the Media’s News Dissemination Role

The following post comes to us from Lili Dai of the College of Business and Economics at Australian National University; Jerry Parwada and Bohui Zhang, both of the Finance Area at UNSW Australia.

That the media plays a role in corporate governance is well known. What is less clear is how the governance effect of the media works. Existing evidence supports the notion that the media disciplines managers by creating content that exposes governance problems. In our paper, The Governance Effect of the Media’s News Dissemination Role: Evidence from Insider Trading, forthcoming in the Journal of Accounting Research, we use evidence from a large sample of insider trading filings to investigate whether the media’s news dissemination role directly affects governance.

The SEC requires insiders to report their trading activities on Form 4 filings, which are typically disseminated through the media. This setting provides us with a useful opportunity to examine the effect of the media’s dissemination role on corporate governance, and specifically in restricting insiders’ trading profits. Since news dissemination increases the breadth of coverage and the attention of investors through repetition, we conjecture that the media reduces the profitability of insiders’ future transactions by disseminating regulatory releases of prior insider trading activities. We call this view, which forms our main hypothesis, disciplining via dissemination.

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Perez v. Mortgage Bankers Association

The following post comes to us from Sullivan & Cromwell LLP, and is based on a Sullivan & Cromwell publication by Brent J. McIntosh, Theodore O. Rogers, and Jeffrey B. Wall; the complete publication, including footnotes, is available here.

The U.S. Supreme Court held on March 9, 2015 that agencies are not required to follow notice-and-comment rulemaking procedures when amending or repealing their interpretations of existing regulations. The Court ruled that the D.C. Circuit’s longstanding Paralyzed Veterans doctrine, which required agencies to follow notice-and-comment procedures when changing interpretive rules, was contrary to the text of the Administrative Procedure Act and exceeded the scope of judicial review authorized by Congress. The Court suggested, however, that changed interpretations should be subject to more searching review by courts, especially when regulated entities have extensively relied on the prior interpretation, and may face limitations in retroactive application. Three Justices wrote separately to question the fundamental appropriateness of judicial deference to agencies’ interpretations of their own regulations. Though the Court directed that an agency will need to provide a more substantial justification for its new interpretation if the new interpretation unsettles serious reliance interests or if it is based on factual findings contrary to prior findings, yesterday’s decision may make it easier for an agency to modify or even reverse its interpretation of existing regulations.

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Supreme Court Clarifies Liability for Opinions in Registration Statements

Robert Giuffra is a partner in Sullivan & Cromwell’s Litigation Group. The following post is based on a Sullivan & Cromwell publication by Mr. Giuffra, Brian T. Frawley, Brent J. McIntosh, and Jeffrey B. Wall; the complete publication, including footnotes, is available here.

On March 24, 2015 in Omnicare, Inc. v. Laborers District Council Construction Industry Pension Fund, No. 13-435, the U.S. Supreme Court addressed the requirement in Section 11 of the Securities Act of 1933 that a registration statement not “contain[] an untrue statement of a material fact” or “omit[] to state a material fact … necessary to make the statements therein not misleading.” Specifically, the Court considered what plaintiffs need to plead under each of those phrases with respect to statements of opinion. The Court’s guidance is significant in light of the importance of pleading standards and motions to dismiss in securities litigation. The Court held, consistent with a majority of the federal courts of appeals, that a pure statement of opinion offered in a Section 11 filing is “an untrue statement of material fact” only if the plaintiff can plead (and ultimately prove) that the issuer did not actually hold the stated belief. At the same time, the Court held that the omission of certain material facts can render even a pure statement of opinion actionably misleading under Section 11. But the Court emphasized that pleading an omissions claim will be difficult because a plaintiff must identify specific, material facts whose omission makes the opinion statement misleading to a reasonable person reading the statement fairly and in context. The Supreme Court’s decision should curtail Section 11 litigation over honestly held opinions that turn out to be wrong, but it may cause the plaintiffs’ bar to bring claims that issuers have not accompanied their opinions with sufficient material facts underlying those opinions. To ward off the risk of such lawsuits, issuers should consider supplementing their disclosure documents with information about the bases of their opinions that could be material to a reasonable investor.

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Freeing Trapped Cash in Cross-Border Deals

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.

In private company transactions, dealmakers often spend significant amounts of time talking about how to treat the cash held by an acquisition target. For example, if the buyer and the seller are negotiating price on the assumption that the target will be sold on a cash-free, debt-free basis, how does the purchase price get adjusted for cash that the target continues to hold at the time of closing? If the deal includes a working capital adjustment, how will cash and cash equivalents be taken into account? What are the procedures for measuring how much cash the target holds at closing?

In cross-border deals, the issues about how to deal with target cash often become significantly more complex. Businesses that operate around the world may have cash in several different countries. Regulatory and tax concerns may limit both the seller’s and the buyer’s ability to transfer cash held by the target from one country to another. Questions about how to deal with the target’s cash must be answered with these constraints in mind.

The balance of this post discusses some of the solutions that buyers and sellers use to resolve trapped cash issues in cross-border deals.

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Delaware Court: Fee-Shifting Bylaw Does Not Apply to Former Stockholder

Toby Myerson is a partner in the Corporate Department at Paul, Weiss, Rifkind, Wharton & Garrison LLP and co-head of the firm’s Global Mergers and Acquisitions Group. The following post is based on a Paul Weiss memorandum, and is part of the Delaware law series, which is cosponsored by the Forum and Corporation Service Company; links to other posts in the series are available here.

In Strougo v. Hollander, the Delaware Court of Chancery held that a fee-shifting bylaw did not apply to a former stockholder’s challenge to the fairness of a 10,000-to-1 reverse stock split that the corporation undertook in connection with a going-private transaction because (i) the bylaw was adopted after the stockholder’s interest in the corporation ceased to exist due to the reverse stock split and (ii) Delaware law does not authorize a bylaw that regulates the rights or powers of former stockholders. While the proposed 2015 amendments to the Delaware General Corporation Law, if adopted, would themselves invalidate fee-shifting provisions in corporate charters and bylaws, Delaware corporations should consider the implications of this opinion’s holding that former stockholders are not bound by bylaws (or, by implication, charter provisions) adopted after their interests as stockholders cease to exist.

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The Benefits of Limits on Executive Pay

The following post comes to us from Peter Cebon of the University of Melbourne and Benjamin Hermalin, Professor of Economics at the University of California, Berkeley. Work from the Program on Corporate Governance about CEO pay includes: The CEO Pay Slice by Lucian Bebchuk, Martijn Cremers, and Urs Peyer (discussed on the Forum here); Paying for Long-Term Performance by Lucian Bebchuk and Jesse Fried (discussed on the Forum here); and Lucky CEOs and Lucky Directors by Lucian Bebchuk, Yaniv Grinstein and Urs Peyer (discussed on the Forum here).

Our paper, When Less Is More: The Benefits of Limits on Executive Pay, forthcoming in the Review of Financial Studies, addresses the question of whether limits on executive compensation harm or benefit shareholders. In particular, our model shows that if regulation limits executive compensation, this can make it possible for the board to give the CEO incentives that are both more effective and less costly, and for the two parties to create a relationship that is more collaborative. Among the implications—some of which we are exploring in a companion paper in progress—is this collaborative relationship makes it more attractive for the CEO to pursue long-run strategies (e.g., organic growth) that are more profitable than the short-run strategies (e.g., mergers and acquisitions) they would have pursued if firms had to rely on stock-based compensation for their executives.

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Crossing State Lines Again—Appraisal Rights Outside of Delaware

Daniel Wolf is a partner at Kirkland & Ellis focusing on mergers and acquisitions. The following post is based on a Kirkland memorandum by Mr. Wolf, Matthew Solum, David B. Feirstein, and Laura A. Sullivan. This post is part of the Delaware law series, which is cosponsored by the Forum and Corporation Service Company; links to other posts in the series are available here.

Even as the Delaware appraisal rights landscape continues to evolve, dealmakers should not assume that the issues and outcomes will be the same in transactions involving companies incorporated in other states. Although once an afterthought on the M&A landscape, in recent years appraisal rights have become a prominent topic of discussion among dealmakers. In an earlier M&A Update (discussed on the Forum here) we discussed a number of factors driving the recent uptick in shareholders exercising statutory appraisal remedies available in cash-out mergers. With the recent Delaware Supreme Court decision in CKx and Chancery Court opinion in Ancestry.com, both determining that the deal price was the best measure of fair price for appraisal purposes, and the upcoming appraisal trials for the Dell and Dole going-private transactions, the contours of the modern appraisal remedy, and the future prospects of the appraisal arbitrage strategy, are being decided in real-time. These and almost all of the other recent high-profile appraisal claims have one thing in common—the targets in question were all Delaware corporations and the parties have the benefit of a well-known statutory scheme and experienced judges relying on extensive (but evolving) case law. But, what if the target is not in Delaware?

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