Monthly Archives: November 2020

Securities Litigation Trends During COVID-19

Blair Connelly and Colleen C. Smith are partners and Cindy Guan is an associate at Latham & Watkins LLP. This post is based on an article originally published in Bloomberg Law.

Many predicted a wave of securities litigation would follow the stock market plunge during the early days of the pandemic in March 2020, just as it did in the wake of the 2008 economic downturn. But in the months since the onset of pandemic- related economic hardship, only a few cases have been pursued by private plaintiffs, with a roughly equal number of enforcement actions filed by the U.S. Securities & Exchange Commission.

The trend in shareholder litigation is beginning to shift. We are now seeing an uptick in claims challenging public statements made regarding protective measures and financial condition. The SEC has encouraged companies to keep shareholders informed about Covid-19 developments relevant to their businesses throughout the crisis. While this guidance is meant to improve transparency, public companies should not overlook the risk of future shareholder litigation as they adjust to new restrictions on business operations, implement new workplace safety measures, and attempt to best position themselves for success in a period of virtually unprecedented economic uncertainty.

In this post, we examine current securities litigation uniquely associated with the pandemic, predict litigation risks and trends going forward, and offer a summary of best practices for avoiding them.


Avoiding Blowback from Your Stock Buyback

Daniel Wolf and Joshua Korff are partners at Kirkland & Ellis LLP. This post is based on their Kirkland & Ellis memorandum. Related research from the Program on Corporate Governance includes  Short-Termism and Capital Flows by Jesse Fried and Charles C. Y. Wang (discussed on the Forum here); and Insider Trading Via the Corporation by Jesse Fried (discussed on the Forum here).

Companies should ensure that their clearance systems are properly designed to identify any MNPI that would preclude share repurchases.

Most stock buyback programs garner attention when the board authorization of a program is announced and when the company provides a quarterly update on its buyback progress during its earnings call or 10-Q filing. However, a recent SEC settled enforcement proceeding highlights that neither of those dates is relevant to the analysis of insider trading risk associated with stock repurchases. Instead, the question of whether the company possesses material non-public information (MNPI), and therefore should not be trading in its own securities, needs to be analyzed at the date of each purchase or, if relevant, the initiation of a 10b5-1 plan to facilitate automated repurchases.

In this case, the SEC alleged that the legal department authorized entering into a 10b5-1 plan for future repurchases at a time when the company’s CEO had just recently reinitiated discussions relating to a potential material M&A transaction.


SEC Proposes Limited Exemption for Finders

Brian T. Daly, Marc E. Elovitz, and Craig S. Warkol are partners at Schulte Roth & Zabel LLP. This post is based on a Schulte Roth memorandum by Mr. Daly, Mr. Elovitz, Mr. Warkol, David S. Sieradzki and Jacqueline Srour.

On Oct. 7, 2020, the SEC, by a 3-2 vote, proposed a conditional exemption from the broker-dealer registration requirements of Section 15(a) of the Securities Exchange Act of 1934, as amended (“Exchange Act”), for natural persons who assist issuers with raising capital in private markets from “accredited investors” (“Proposal”). The Proposal provides long-sought guidance regarding payment of transaction-based compensation to unregistered persons, commonly referred to as “finders,” who engage in limited securities-related activities to raise funds on behalf of issuers.

The Proposal creates two classes of finders, based on the types of activities in which they are permitted to engage, that would qualify for an exemption from registration. A Tier I finder would be permitted to provide a list of potential investors in connection with a single capital raising transaction by a single issuer once every 12 months. Tier I finders may not communicate with investors regarding an investment opportunity. A Tier II finder would be permitted to solicit investors on behalf of an issuer, distribute offering materials to investors, discuss issuer information included in offering materials and participate in meetings with the issuer and investors. Both Tiers of finders would be permitted to receive transaction-based compensation, which has traditionally been considered a hallmark of brokerage activity.


Weekly Roundup: October 30–November 5, 2020

More from:

This roundup contains a collection of the posts published on the Forum during the week of October 30–November 5, 2020.

SEC Brings Enforcement Action Against Fund Manager for Single 13D Violation

Proposed HSR Rule Change Would Benefit Activists

Politics and Purpose in Corporate America

Incorporating Human Capital Management Disclosures into a Company’s Annual Report

The PCAOB’s Revised Research and Standard-Setting Agendas

2020 Annual Corporate Directors Survey

Pandemic Preparation: 72-Hour Response Plan to Government Inquiry

Trump Legacy: Boom in Corporate Political Disclosure

Shareholder Value(s): Index Fund ESG Activism and the New Millennial Corporate Governance

Statement by Commissioner Lee on Amendments to the Exempt Offering Framework

Next-Generation Cybersecurity Disclosures for Publicly Traded Companies

Catastrophe Bonds, Pandemics, and Risk Securitization

Unions Are Democratically Organized, Corporations Are Not

Determining Fair Value in Appraisal Proceedings

Determining Fair Value in Appraisal Proceedings

Jason Halper is partner and Sara Bussiere and Timbre Shriver are associates at Cadwalader, Wickersham & Taft LLP. This post is based on their Cadwalader memorandum, and is part of the Delaware law series; links to other posts in the series are available here. Related research from the Program on Corporate Governance includes Using the Deal Price for Determining “Fair Value” in Appraisal Proceedings (discussed on the Forum here) and Appraisal After Dell, both by Guhan Subramanian.

On July 9 and October 12, 2020, the Delaware Supreme Court added two more opinions to its growing suite of recent appraisal decisions underscoring the prominence of market-based factors in determining fair value. In Fir Tree Value Master Fund, LP v. Jarden Corp., the Delaware Supreme Court affirmed Vice Chancellor Slights’ finding that Jarden’s unaffected stock market price was the most reliable indicator of fair value under the facts presented there. In Brigade Leveraged Capital Structures Fund and Brigade Distressed Value Master Fund Ltd. v. Stillwater Mining Co., the Delaware Supreme Court affirmed the lower court’s reliance on deal price for its fair value determination and confirmed that deal price remains the most reliable indicator of fair value if the seller runs an appropriate, conflict-free sales process.

After Verition Partners Master Fund Ltd. v. Aruba Networks, lnc., in which the Delaware Supreme Court reversed the lower court’s reliance on the unaffected stock price for fair value and found instead that the merger consideration minus deal-specific synergies was the more reliable indicator of fair value, many speculated that transaction price would be the primary source of fair value evidence going forward. In Jarden, however, the Delaware Supreme Court agreed with the Court of Chancery’s decision that deficiencies in Jarden’s sales process undermined the reliability of the deal price as evidence of fair value, which in turn supported the Court of Chancery’s determination to consider other evidence. The Court of Chancery found-and the Delaware Supreme Court agreed-that in light of a sub-par sales process, Jarden’s pre-announcement market price was the most reliable indicator of fair value given that Jarden stock traded in an efficient market and in the absence of material, non-public information.


Where Do Institutional Investors Seek Shelter when Disaster Strikes? Evidence from COVID-19

Stefano Ramelli is a PhD candidate in Finance at the University of Zurich. This post is based on a recent paper authored by Mr. Ramelli; Simon Glossner, Post-doctoral research associate at the University of Virginia Darden School of Business; Pedro Matos, John G. Macfarlane Family Chair and Professor of Business Administration and Academic Director of Richard A. Mayo Center for Asset Management at the University of Virginia Darden School of Business; and Alexander F. Wagner, Professor of Finance at the University of Zurich and Swiss Finance Institute.

Institutional investors increasingly play a central role in US stock markets, with institutional ownership rising from below 40% in 1980 to over 75% nowadays. In Glossner, Matos, Ramelli, and Wagner (2020), we examine the outbreak of the novel coronavirus (COVID-19) pandemic—a truly exogenous shock—as a powerful setting to learn more about their behavior. Did institutional investors run for the exits and sell equities, given the heightened level of uncertainty, or instead took a contrarian approach (buying when other market participants were selling, potentially seeing through the temporary nature of the pandemic)? Did institutions sell stocks indiscriminately or rebalance their equity portfolios in a “flight to quality”, favoring stocks perceived to be more “resilient”? And who took the other side of their trades?

We first looked at whether institutional ownership (IO) was a key explanatory variable for stock returns in the COVID-19 crash. Figure 1 shows that the IO level at the end of 2019 was associated with a significant stock underperformance during the COVID-19 market crash, net of the combined effects of other firm and industry characteristics. How did this vary across types of institutions? We find that stocks held more by active investors (vs. passive) investors, short-term investors (vs long-term), or those institutions that had previously experienced higher outflows during the Great Financial Crisis of 2007/2008 performed worse in the COVID-19 “Fever period” (from February 24 through March 20 of 2020, as defined by Ramelli and Wagner, 2020).


Safe Harbor for Permissible Capital-Raising Activities by Unregistered Finders

Spencer G. Feldman is a partner at Olshan Frome Wolosky LLP. This post is based on his Olshan memorandum.

Recognizing the longstanding need for a new approach to the regulation of finders who help smaller businesses raise early stage capital, the SEC has published a notice of a proposed exemptive order and request for comment to formalize the regulatory status of unregistered finders. The proposed finders exemption from broker-dealer registration would facilitate a role for unregistered finders in the capital-raising process and clarify the circumstances under which issuers can legally compensate finders who comply with specified conditions. The author’s thoughts on the proposed finders exemption follow a summary of the rule proposal.

On October 7, 2020, the Securities and Exchange Commission published its long-awaited rule proposal to provide a safe harbor exemption permitting an individual acting as an unregistered financial intermediary, or “finder,” to engage in capital-raising activities on behalf of smaller private companies without registering as a broker-dealer. [1] The SEC’s proposal (Release No. 34-90112, File No. S7-13-20) reflects several decades of thinking by the SEC staff, various government-business and bar association committees, numerous law professors and securities lawyers, who have acknowledged the role of finders in locating and referring capital to small businesses but have disagreed on the appropriate level of regulation to protect investors. In the capital markets today, there is no general guidance on finders from the SEC, other than interpretive positions taken by the SEC staff in no-action letters, prompting some to refer to the use of finders as the “gray market.”


Unions Are Democratically Organized, Corporations Are Not

David Madland is senior fellow, Malkie Wall is research associate, and Danielle Root is associate director at the Center for American Progress. This post is based on a CAP memorandum by Mr. Madland, Ms. Wall, Ms. Root, and Sam Berger. Related research from the Program on Corporate Governance includes Corporate Political Speech: Who Decides? by Lucian Bebchuk and Robert J. Jackson Jr. (discussed on the Forum here); and The Politics of CEOs by Alma Cohen, Moshe Hazan, Roberto Tallarita, and David Weiss (discussed on the Forum here).

In establishing the rules that govern engagement with the democratic process— including laws related to elections, campaign finance, and lobbying—unions and corporations are often lumped together under the incorrect assumption that these two types of organizations are roughly equivalent and thus should be subject to similar rules. For example, prior to the Supreme Court’s Citizens United v. Federal Election Commission decision, unions and corporations were subject to identical limits on their ability to spend general treasury funds on federal elections, and since the decision have been equally free to use their general funds on political expenditures.

Efforts to equate corporate and union political activity date back to at least the 1940s with the passage of the 1943 Smith-Connally Act, which barred unions from making contributions to federal candidates in the spirit of parity with the Tillman Act’s limitations on corporate contributions, and the 1947 Taft-Hartley Act, which prohibited any independent expenditures by corporations and labor unions. As former professor of constitutional law at American University Rep. Jamie Raskin (D-MD) explains, the false equivalence between unions and corporations “has sunk deeply into American legal, political, and social consciousness, weakening the sense of unions as organic democratic institutions in civil society … while aggrandizing the political power of CEOs of large companies who are increasingly, if bizarrely, treated as leaders of civic membership associations.”


Catastrophe Bonds, Pandemics, and Risk Securitization

Steven L. Schwarcz is Stanley A. Star Distinguished Professor of Law & Business at Duke University School of Law. This post is based on his recent paper.

Insurance is the tried-and-true strategy for protecting against infrequent but potentially devastating losses. In theory, governments could protect against the potential economic devastation of future pandemics by requiring businesses to insure against pandemic-related risks. In practice, however, insurers do not currently offer pandemic insurance. Insurers fear their industry does not have the capacity to provide coverage.

In Catastrophe Bonds, Pandemics, and Risk Securitization, I focus on using risk securitization—a relatively recent and innovative private-sector means of insuring otherwise “uninsurable” risks—to insure pandemic-related risks. Risk securitization depends on investor demand to purchase catastrophe (“CAT”) bonds. Capital market investors have shown high demand, for two reasons. First, CAT bonds provide a diversified return because natural catastrophes occur randomly and are not correlated with standard economic risks; therefore, CAT-bond returns are largely uncorrelated to the returns of equity securities and conventional corporate bonds. Second, CAT bonds have provided strong returns to investors.


Next-Generation Cybersecurity Disclosures for Publicly Traded Companies

Paul Ferrillo is partner at McDermott Will & Emery LLP; Bob Zukis is Adjunct Professor of Management and Organization at the USC Marshall School of Business; and Christophe Veltsos is a professor at Minnesota State University.

In 2018 the SEC issued its second round of guidance (the “2018 SEC Cyber guidance”) to registrants on what they expected cybersecurity disclosures to address in forthcoming periodic filings. The 2018 SEC Cyber Guidance followed guidance issued in 2011 and came shortly after the 2017 Equifax breach in acknowledgment that “Cybersecurity risks pose grave threats to investors, our capital markets and country,” as they stated in the guidance. With a focus on the materiality of cybersecurity risk and the importance of both the timely escalation of cyber incidents to the Board of Directors and the public disclosure of incidents to the markets, the 2018 SEC guidance was an important second step in imposing additional accountability around governing this significant business risk.

EY recently issued a research report on actual cybersecurity disclosures for 76 of the Fortune 100 companies from 2018 through May 2020 [1]. A few things stand out from the EY research. First, all of the companies in their research disclosed cybersecurity as a risk factor from 2018 through 2020, which was the focus of the 2011 SEC guidance. Only one company in 2020 did not disclose data privacy as a risk factor.

Second, there is a wide range of variance in the practices that are being disclosed for board oversight of cybersecurity and its risk management. In general, the data tells us that cyber risk oversight and management practices likely lag disclosure practice.


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