Monthly Archives: June 2019

Keynote Remarks at the Mid-Atlantic Regional Conference

Jay Clayton is Chairman of the U.S. Securities and Exchange Commission. This post is based on Chairman Clayton’s recent keynote remarks at the Mid-Atlantic Regional Conference, available here. The views expressed in this post are those of Mr. Clayton and do not necessarily reflect those of the Securities and Exchange Commission or its staff.

Thank you, Jeff [Boujoukos], for that kind introduction. I am pleased to have the opportunity to speak with the SEC’s federal and state partners in my home town of Philadelphia. Thank you to the Philadelphia Regional Office for organizing this terrific event. [1]

Before I start, let me remind you that the views I express today are my own and do not necessarily reflect the views of my fellow Commissioners or the SEC staff.

Today I will focus on recent legal decisions impacting our enforcement efforts, and how the thoughtful and responsible use and collection of data from market participants can strengthen our enforcement and examination functions to benefit Main Street investors.


The Past and Present of Mutual Fund Fee Regulation

Quinn Curtis is Albert Clark Tate, Jr., Professor of Law at the University of Virginia School of Law. This post is based on his recent paper, published in the Research Handbook on the Regulation of Mutual Funds.

Section 36(b) of the Investment Company Act permits mutual fund investors to sue funds for charging excessive asset management fees. This liability for excessive fees has proven to be one of the more problematic areas of mutual fund regulation. Fund complexes view the suits largely as unpredictable nuisances unrelated to fee levels, while for those concerned about mutual fund fees, section 36(b) has never resulted in a verdict for plaintiffs.

In the Past and Present of Mutual Fund Fee Regulation, my contribution to the Research Handbook on the Regulation of Mutual Funds (John Morley and William Birdthistle eds.) I situate the current state of mutual fund fee litigation in the larger context of the history and development of the section. Many of the problems that have plagued the operation of 36(b) are traceable to the compromises that resulted from the competing efforts of the SEC and Investment Company Institute (ICI) during the adoption of the 1970 amendments to the Investment Company Act. The shortcomings of contemporary 36(b) litigation are rooted in these disputes, which the statute left fundamentally unresolved.


Statement on Final Rules Governing Investment Advice

Robert J. Jackson, Jr. is a Commissioner at the U.S. Securities and Exchange Commission. This post is based on his recent public statement. The views expressed in the post are those of Commissioner Jackson and do not necessarily reflect those of the Securities and Exchange Commission, the other Commissioners, or the Staff.

Our Nation is facing a savings crisis. Many young workers are unable to save at all; half of America’s retirees have saved less than $65,000 and face the terrifying prospect of running out of money in retirement. [1] Every time those Americans seek help from financial professionals, they’re asked to trust someone whose interests can be contrary to their own. And when that conflict leads to bad advice, investors suffer costs that American savers simply cannot afford.

I believe that the SEC’s most crucial task is to protect investors from the dangers this basic economic reality presents. Since I’ve been on the Commission, I have fought to do just that. So my hope was that the rules we announced today would significantly raise the standard for investment advice in this country. I hoped to join my colleagues in announcing that the Nation’s investor protection agency has left no doubt that, in America, investors come first.

Sadly, I cannot say that. Rather than requiring Wall Street to put investors first, today’s rules retain a muddled standard that exposes millions of Americans to the costs of conflicted advice. Even worse, contrary to what Americans have heard for a generation, the Commission today concludes that investment advisers are not true fiduciaries. Today’s actions fail to arm Americans with the tools they need to survive the Nation’s retirement crisis. Accordingly, I respectfully dissent.


Statement on Commission Actions to Enhance and Clarify the Obligations Financial Professionals Owe to our Main Street Investors

Jay Clayton is Chairman of the U.S. Securities and Exchange Commission. This post is based on Chairman Clayton’s recent statement at an Open Meeting of the SEC, available here. The views expressed in this post are those of Mr. Clayton and do not necessarily reflect those of the Securities and Exchange Commission or its staff.

Good morning, we have four separate items on today’s agenda.

I am going to begin with some historical perspective.

Just two days ago, on Monday evening, we celebrated the 85th anniversary of the Commission. The overriding issue we address today—the obligations of financial professionals when they provide investment advice and services to retail customers—has been at the heart of our mission for those 85 years. This is a vast, multifaceted, complex and critically important facet of our economy and our society. It directly affects 43 million American households.

Today, thanks to the career professionals here at the Commission—and true to our mission—we elevate, enhance and clarify these obligations in a comprehensive manner.

This action is long overdue. The fact that it is overdue does not make it easier. I believe the delay has made it more difficult as many interested parties have developed strident and divergent views on the state of the market, as well as current law and regulation, and what should be done to better serve the interests of our Main Street investors. Another complicating factor is that we regulate two types of financial professionals that play important roles in this vast market—broker-dealers and investment advisers—but do so in significantly different ways and under different regulatory regimes.


Sustainability Accounting Standards and SEC Filings

Tom Riesenberg is Director of Legal and Regulatory Policy at the Sustainability Accounting Standards Board (SASB) and Alan Beller is a member of the SASB Foundation Board of Directors. This post is based on their SASB memorandum. Related research from the Program on Corporate Governance includes Socially Responsible Firms by Alan Ferrell, Hao Liang, and Luc Renneboog (discussed on the Forum here).

The Sustainability Accounting Standards Board (SASB), a nonprofit, non-governmental organization, was established in 2011 to develop standards for companies to make consistent, comparable, and reliable disclosures about sustainability or ESG (environmental, social, and governance) matters. The SASB standards are intended to address topics that fall within well-recognized (in the U.S. and globally) concepts of financial materiality for investors and, because of their relation to financial materiality, are intended to be decision-useful for investors.

Because the materiality threshold for companies that report in the United States is tied to a well-established case law definition, it was initially anticipated that use of the standards by such companies would be closely tied to filings with the Securities and Exchange Commission (SEC), such as the annual report on Form 10-K. But SASB’s outreach to investors convinced it to become less focused on SEC filings as the primary location for disclosures; most investors were found to care more about obtaining sustainability disclosure that is readily available, reliable, and comparable than they do about where it is located. Thus, the question of where the SASB disclosures should be made is left to reporting companies, and how it is playing out since the SASB standards were codified late last year is the subject of this article.


Institutional Trading around M&A Announcements

Eliezer Fich is Professor of Finance at Drexel University LeBow College of Business; Viktoriya Lantushenko is Assistant Professor of Finance at Saint Joseph’s University; and Clemens Sialm is a Professor of Finance and Economics at the University of Texas at Austin McCombs School of Business. This post is based on their recent paper.

Related research from the Program on Corporate Governance includes M&A Contracts: Purposes, Types, Regulation, and Patterns of Practice, by John C. Coates, IV; and Are M&A Contract Clauses Value Relevant to Target and Bidder Shareholders? (discussed on the Forum here) by John C. Coates, IV, Darius Palia, and Ge Wu.

Takeover targets often experience substantial share price appreciations around public announcements of mergers and acquisitions. Trading in anticipation of these announcements can considerably improve the performance of an investment strategy. In our paper, we analyze hedge fund and mutual fund holdings around takeover announcements to assess the differences in investment strategies across institutions in a sample of 7,184 M&A announcements during 1990-2015. We find that hedge fund ownership in impending takeover targets increases by 7.2% during the quarter prior to the merger announcement. On the other hand, mutual fund ownership in takeover targets decreases by 3.0% during the calendar quarter preceding the public merger announcement.

Our results on ownership changes are robust across transactions of different sizes, different takeover premia, and different deal characteristics. Our results also indicate qualitatively similar effects before and after Regulation Fair Disclosure.


The New DOJ Compliance Guidelines and the Board’s Caremark Duties

Michael W. Peregrine is a partner at McDermott Will & Emery LLP. This post is based on his McDermott Will & Emery memorandum. This post is part of the Delaware law series; links to other posts in the series are available here.

Much has been written of late about the significance of the Department of Justice’s new “Evaluation of Corporate Compliance Plan Programs” [1] guidance (“New Guidance”) and its likely impact on the “nuts and bolts” of compliance program design and operation. But the Guidance may have more far-reaching implications to the extent that it serves to revitalize the authority and engagement of the governing board’s “Caremark” compliance oversight function. For at its core, the New Guidance is a strong reminder of the critical role that corporate governance plays in assuring a compliant corporate culture.

The New Guidance

The New Guidance is the latest effort by the Department of Justice to provide clarity and direction on the government’s perspective for measuring compliance program effectiveness. Released on April 30, it updates a prior version issued by the Criminal Division’s Fraud Section in February 2017. It discusses in detail topics the Criminal Division has frequently found relevant in evaluating corporate compliance programs, and organizes the detail around three main questions that prosecutors raise when evaluating such programs: 1) whether the program is well-designed; 2) whether the program has been applied earnestly and in good faith (in other words, effectively implemented); and 3) whether the program actually works in practice. [2]


Is Goldman Sachs’ Director Compensation Entirely Fair?

Audrey Fenske and Steve Quinlivan are partners and Jaclyn Schroeder is an associate at Stinson LLP. This post is based on a Stinson memorandum by Ms. Fenske, Mr. Quinlivan, Ms. Schroeder, Bryan Pitko, Phil McKnight, and Jack Bowling. This post is part of the Delaware law series; links to other posts in the series are available here.

Quoting both a nearly 70-year-old decision and a nearly 30-year-old SNL skit, the Delaware Court of Chancery, in Stein v. Blankfein et al, reaffirmed that in most circumstances decisions of directors awarding director compensation are subject to review under the entire fairness standard. The Court also addressed the possibility of stockholder waiver of application of that standard to future director actions, but did not conclude as to whether such a waiver was even possible. The litigation addressed compensation of Goldman Sachs’ directors—primarily the stock incentive plans, or SIPs, approved by Goldman Sachs stockholders in 2013 and 2015. Ruling on a motion to dismiss, the Court rejected director defendants’ arguments that:

  • the stockholder-approved SIPs absolved, in advance, the director’s breaches of duty in self-dealing, absent a demonstration of bad faith. Since the argument was rejected the director decisions were subject to review under the entire fairness standard because the plans provided the directors discretion to determine their own awards; and
  • the plaintiff failed to adequately allege that the self-awarded director compensation was not entirely fair.

The following courses of action remain available to public company boards in approving director compensation:

  • have specific awards or self-executing guidelines approved by stockholders in advance; or
  • knowing that the entire fairness standard will apply, limit discretion with specific and meaningful limits on awards and approve director compensation with a fully developed record, including where appropriate, incorporating the advice of legal counsel and that of compensation consultants.


Why CalPERS and Colorado PERA Moved to Intervene in the Johnson & Johnson Mandatory Arbitration Case

Matthew Jacobs is General Counsel for CalPERS; Adam Franklin is General Counsel at Colorado PERA; and Megan Peitzmeier is Senior Staff Attorney at Colorado PERA. This post is based on their joint CalPERS and Colorado PERA memorandum.

Several commentators have pointed out that a shareholder’s lawsuit demanding that Johnson & Johnson permit a shareholder vote on a proposal to amend J&J’s bylaws to mandate arbitration of federal securities claims has come to the court in a strange posture. In Cydney Posner’s earlier article about this case, she makes note of the “odd role reversal” of “a Harvard professor and shareholder of Johnson & Johnson submitted a proposal requesting that the board adopt a mandatory arbitration bylaw”. In press coverage relating to the recent motion of CalPERS and Colorado PERA, Alison Frankel characterizes this as a case with “a weird posture”.

What’s going on in The Doris Behr 2012 Irrevocable Trust v. Johnson & Johnson that caused CalPERS and Colorado PERA to seek intervention? The case pits a small shareholder seeking a bylaw amendment that would eliminate shareholders’ right to sue against a large corporation that is defending the right of its shareholders to sue. As mentioned in Ms. Posner’s article, the plaintiff-shareholder happens to be a Harvard law professor; and this professor is a long-time opponent of securities class actions. Because neither the plaintiff nor J&J share the interests of institutional investors like CalPERS and Colorado PERA, the two funds have jointly moved to intervene in the case.


The Business Case for ESG

Brandon B. Boze is partner at ValueAct Capital; David F. Larcker is James Irvin Miller Professor of Accounting at Stanford Graduate School of Business; and Eva T. Zlotnicka is Vice President at ValueAct Capital. This post is based on a recent paper by Mr. Boze, Professor Larcker, Ms. Zlotnicka, Margarita Krivitski, and Brian Tayan. Related research from the Program on Corporate Governance includes Socially Responsible Firms by Alan Ferrell, Hao Liang, and Luc Renneboog (discussed on the Forum here).

We recently published a paper on SSRN, The Business Case for ESG, that examines the potential for corporate managers, boards of directors, and institutional investors around how best to incorporate ESG (environmental, social, governance) factors into strategic and investment decision-making processes. Central to the topic is the premise that both companies and investors have become too short-term oriented in their investment horizon, leading to decisions that increase near-term reported profits at the expense of the long-term sustainability of those profits. The costs of those decisions are assumed to manifest themselves as externalities, borne by members of the workforce or society at large.

Prominent investors such as Larry Fink at BlackRock adopt this viewpoint:


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