Monthly Archives: September 2021

ESG Disclosures in Proxy Statements: Benchmarking the Fortune 50

Rebecka Manis is an associate and Lindsey Smith and Sonia Gupta Barros are partners at Sidley Austin LLP. This post is based on a Sidley memorandum by Ms. Manis, Ms. Smith, Ms. Barros, Holly J. Gregory, Rebecca Grapsas, and Maureen Gorsen. Related research from the Program on Corporate Governance includes The Illusory Promise of Stakeholder Governance (discussed on the Forum here) and Will Corporations Deliver Value to All Stakeholders?, both by Lucian A. Bebchuk and Roberto Tallarita; For Whom Corporate Leaders Bargain by Lucian A. Bebchuk, Kobi Kastiel, and Roberto Tallarita (discussed on the Forum here); and Restoration: The Role Stakeholder Governance Must Play in Recreating a Fair and Sustainable American Economy—A Reply to Professor Rock by Leo E. Strine, Jr. (discussed on the Forum here).

It is no secret that the U.S. Securities and Exchange Commission (SEC) has recently ramped up its focus on environmental, social and governance (ESG) disclosures. In February 2021, Acting Chair of the SEC Allison Herren Lee directed the Division of Corporation Finance to enhance focus on climate-related disclosure in public company filings, including reviewing the extent to which public companies address the topics identified in the SEC’s 2010 Guidance Regarding Disclosure Related to Climate Change. Then, in March 2021, she requested public comment on climate change disclosures (which has generated over 600 comment letters, the vast majority of which are supportive of mandatory climate disclosure rules), and new SEC rules on climate risk and human capital disclosures are expected to be proposed yet this year. In addition, holding true to its “all-of-SEC” approach to ESG, the SEC has formed a Climate and ESG Task Force (composed of 22 members and led by the Acting Deputy Director of Enforcement), which will use data analytics to look for material gaps and misstatements in climate risk disclosures under existing rules.


Beyond “Market Transparency”: Investor Disclosure and Corporate Governance

Alexander I. Platt is Associate Professor at the University of Kansas School of Law. This post is based on his recent paper, forthcoming in the Stanford Law Review. Related research from the Program on Corporate Governance includes The Law and Economics of Blockholder Disclosure by Lucian Bebchuk and Robert J. Jackson Jr. (discussed on the Forum here) and Pre-Disclosure Accumulations by Activist Investors: Evidence and Policy by Lucian Bebchuk, Alon Brav, Robert J. Jackson Jr., and Wei Jiang.

The ability to identify a firm’s shareholders is essential to modern corporate governance practice. Corporate managers, activist hedge funds, shareholder proposal sponsors, and other market actors all use this information in their efforts to shape corporate action.

This information—the identities of a company’s investors—seems elementary, if not downright primitive. In today’s world of algorithmic traders, machine learning, and robo-advisors, a list of a company’s shareholders doesn’t exactly get the blood pumping. It’s easy to see how it could come to be taken for granted.

And so it has. The best—and, in many cases, the only—source for information about a firm’s shareholders is produced under a mostly forgotten provision of the federal securities laws. For 40+ years, institutional investors (like mutual funds and hedge funds) have been disclosing their equity portfolio holdings every quarter as required under Exchange Act § 13(f) and the SEC’s rules promulgated under that statute (hereinafter collectively: 13F). And yet, the possibility that 13F plays a role in activism or other corporate governance interactions has been almost completely overlooked. Although countless studies in law and finance rely on 13F disclosures, none have turned the microscope around to examine the program itself. Accounts of the federal regulations that mediate the relationship between investors and corporations uniformly omit 13F.


The FCA and SEC Annual Reports—A Statistical Comparison

Helen Marshall and Michael A. Asaro are partners and Joe Hewton is counsel at Akin, Gump, Strauss, Hauer & Feld LLP. This post is based on an Akin Gump memorandum by Ms. Marshall, Mr. Asaro, Mr. Hewton, Phil Davies, Peter Altman, and Emily Hansen.

Key Points

  • The SEC and the FCA each publish annual reports on their enforcement actions.
  • Whilst enforcement data only shows a snapshot of the regulators’ activities, there is much to be learned from these reports, particularly as it can help to identify trends, themes and priorities in the regulators’ approach to enforcement.
  • As well as the number of cases brought and their subject matter, the data also provides an insight on the average length of time it is taking the regulators to conduct investigations through to their resolution.
  • Compared to the previous year, the most recent full SEC figures show the Commission having brought fewer cases in 2020, but yet imposed a similar quantum of financial penalties, and indeed the SEC increased the amount of disgorgement sought to a new high. The FCA’s recently published figures show general stability year-on-year in the number of investigations resolved, and a slight decrease in the quantum of financial penalties imposed.
  • Given that the coronavirus pandemic is likely to have pushed back the resolution of cases, and potentially delayed the opening of investigations as well, the expectation is that the results in 2021/2022—and likely for the next few years, given that most investigations are multiyear affairs—will be higher, and 2020 will be looked back on as something of an anomaly.


Discharging the Discharge for Value Defense

Eric Talley is the Isidor & Seville Sulzbacher Professor of Law at Columbia Law School. This post is based on his recent paper.

For those seeking watershed moments in contemporary contract law, the area of corporate debt seems an unlikely target. Though gargantuan in size, debt markets have a storied reputation as a refuge for the risk averse—participants expecting stable payouts, low volatility, and few surprises. Nevertheless, corporate debt contracts are themselves notably lengthy and complex. When parlayed with the immense financial sums at stake, that complexity can become a recipe for calamity. And in late 2020, calamity struck in the form of a nearly $1 billion accidental payoff sent to Revlon Inc.’s distressed creditorsnot by Revlon itself but rather by Citibank, the administrative agent for the loan. When several lenders refused to return the cash, Citibank commenced what many reckoned would be a successful (if embarrassing) lawsuit to claw it back. But in a dramatic 2021 opinion, a New York federal court sided with the debtholders, applying an obscure equitable doctrine known as the “Discharge for Value” defense. The lenders could keep their wayward windfall, and Citibank got stuck with a sizeable write-down. The decision is currently on appeal to the Second Circuit; but whatever its ultimate resolution, the case seems destined to feature prominently in contracts classes and textbooks for years to come.


Boeing’s MAX Woes Reach the Boardroom

Edward D. Herlihy and William Savitt are partners at Wachtell, Lipton, Rosen & Katz. This post is based on their Wachtell 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 Monetary Liability for Breach of the Duty of Care? by Holger Spamann (discussed on the Forum here).

In an important decision this week, the Delaware Court of Chancery permitted a Caremark duty-of-oversight claim to proceed against the directors of the Boeing Company. Stockholder plaintiffs sued Boeing’s board, seeking to recover costs and economic losses associated with the crash of two 737 MAX jetliners. The plaintiffs’ complaint alleged that the directors failed to monitor aircraft safety before the crashes and then failed to respond to known safety risks after the first crash. The lawsuit seeks to hold the directors liable for the resulting loss of “billions of dollars in value.”

The court denied the directors’ motion to dismiss. The court first concluded that the pleaded facts described a board that “complete[ly] fail[ed] to establish a reporting system for airplane safety.” Emphasizing that meeting minutes gave little sign of director engagement with safety issues, the court credited allegations that the board had no committee charged with direct responsibility to monitor airplane safety, seldom discussed safety, and had no protocols requiring management to apprise the board of safety issues.


Boards Need to Become More Diverse. Here’s How to Do It

Maria Castañón Moats is Leader at the Governance Insights Center, PricewaterhouseCoopers LLP. This post is based on her PwC memorandum. Related research from the Program on Corporate Governance includes Politics and Gender in the Executive Suite by Alma Cohen, Moshe Hazan, and David Weiss (discussed on the Forum here).

When the SEC approved Nasdaq’s new board diversity rules earlier this month, it was yet another sign that the time has come to open public company boardrooms to directors with a broader set of backgrounds, experiences, and identities. Now more than ever, diversity on corporate boards is a business imperative.

Even when change is necessary, it often isn’t easy. Many boards are likely asking themselves where to begin. At PwC, we’ve been talking about the need for increased boardroom diversity for years, why it’s important, and how to get there. Our own board is more diverse than ever. And from our perspective, the time for all businesses to act is now.

One important reason for taking action is that the pressure on companies that lag behind on board diversity will likely only rise from here. Nasdaq’s rule will require companies listed on its exchange to add diverse directors or explain why they haven’t. Other stakeholders’ expectations are rising as well.

Several states have passed legislation mandating that businesses headquartered within them disclose board diversity data. California has gone further, enacting laws that require public companies based there to have a certain number of directors who are women or identify as Black, Latinx, Asian, Pacific Islander, Native American, Native Hawaiian, or Alaska Native, or as lesbian, gay, bisexual, or transgender.


SEC Continues to Scrutinize Earnings Management Through Its EPS Initiative

Jina Choi is partner and Andre Fontana is an associate at Morrison & Foerster LLP. This post is based on their Morrison & Foerster memorandum.

On August 24, 2021, the SEC announced a settled enforcement action against Pennsylvania-based Healthcare Services Group, Inc. (HCSG) and its former CFO for accounting and disclosure violations that resulted in the company reporting inflated earnings per share (EPS) that met research analysts’ consensus estimates for multiple quarters. The SEC also charged HCSG with failing to keep accurate books and records and sufficient internal accounting controls, and charged its former controller with causing those violations.

Following two cases from last year, the action against HCSG is the third enforcement action—and likely not the last—resulting from the SEC’s EPS Initiative, which was created to use data analytics to uncover potential accounting and disclosure violations caused by earnings management practices. In the three cases brought under the EPS Initiative, each issuer had patterns of meeting or slightly exceeding consensus EPS estimates for consecutive quarters, followed by significant drops in EPS. The consequences have not been mild: the three companies caught in the crosshairs of the EPS Initiative paid a total of over $12 million in penalties and charges were brought against individual officers who agreed to pay significant fines as well as to be denied the privilege of appearing or practicing before the Commission as an accountant, with permission to reapply after one to three years.


NYSE Restores Thresholds for Related Party Transactions

Brian Breheny, Raquel Fox, and Marc Gerber are partners at Skadden, Arps, Slate, Meagher & Flom LLP. This post is based on a Skadden memorandum by Mr. Breheny, Ms. Fox, Mr. Gerber, Andrew Brady, Caroline Kim, and James Rapp.

On August 19, 2021, the New York Stock Exchange (NYSE) filed an immediately effective rule change (Rule Proposal) restoring a transaction value and materiality threshold for related party transactions that require independent directors’ review.

The Rule Proposal, filed with the Securities and Exchange Commission (SEC), amended Section 314.00 of the NYSE Listed Company Manual. [1] The Rule Proposal addresses concerns raised by NYSE-listed companies following previous amendments to the listing standard approved by the SEC on April 2, 2021. Those amendments revised Section 314.00 to (i) require the audit committee or another independent body of the board of directors to conduct “a reasonable prior review and oversight” of related party transactions and (ii) defined related party transactions as transactions required to be disclosed pursuant to Item 404 of Regulation S-K or, with respect to foreign private issuers, Item 7.B of Form 20-F. The NYSE’s amendments, however, removed the transaction value or materiality thresholds under the respective SEC provisions that excluded small and nonmaterial transactions from the disclosure requirement. [2]

The Rule Proposal reinstates those thresholds so that the scope of related party transactions subject to independent directors’ review under Section 314.00 is again aligned with the SEC disclosure rules. The NYSE came to appreciate that removing the thresholds was “inconsistent with the historical practice of many listed companies, and has had unintended consequences” of creating a “significant compliance burden for issuers with respect to small transactions that are considered immaterial for purposes of other regulatory requirements.”


Remarks by Chair Gensler Before the Investor Advisory Committee

Gary Gensler is Chair of 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 Chair Gensler, and do not necessarily reflect those of the Securities and Exchange Commission or the Staff.

Thank you for the kind introduction. I’d like to note that my views are my own, and I’m not speaking on behalf of my fellow Commissioners or the staff.

I’m glad to participate in my second meeting of the Investor Advisory Committee. I thank the members for your time and willingness to represent the interests of American investors. Investor protection is at the heart of the SEC’s three-part mission.

Today, I’d like to discuss a few areas related to topics you’re discussing today, including the behavioral design of online trading platforms, 10b5-1 plans, and SPACs. I also look forward to your readout from your panel discussion on the Public Company Accounting Oversight Board.

Behavioral Design of Online Trading Platforms

In the last few years we’ve seen a proliferation of trading apps, as well as wealth management apps and robo-advisers, that use various practices to develop and provide investment advice to retail investors.


Financial Reporting and Moral Sentiments

Radhika Lunawat is Assistant Professor of Accounting and Economics at the University of California-Irvine Paul Merage School of Business; Timothy W. Shields is Associate Professor of Accounting at Chapman University and the Economic Science Institute; and Gregory Waymire is Asa Griggs Candler Professor of Accounting at Emory University Goizueta Business School and the Economic Science Institute. This post is based on their recent paper, forthcoming in the Journal of Accounting & Economics.

Publicity is justly commended as a remedy for social and industrial diseases. Sunlight is said to be the best of disinfectants.

—Louis Brandeis (1914, 92)

We experimentally evaluate whether financial reporting has economic value in a sparse setting where contracting is not possible. We hypothesize that financial reporting leads a manager to alter her behavior in anticipation of an investor’s evaluation of the manager’s conduct, as revealed by financial reporting. The desire to be viewed positively by others will lead the manager to take actions that benefit investors.

Our experimental predictions derive from the hypothesis that people desire to take altruistic actions and to be seen doing so. We define a moral sentiment as a feeling (both emotional and cognitive) that another person is intentionally benefited or harmed by an action that serves to determine the propriety of that action. Moral sentiments develop because an actor believes that an altruistic action is inherently satisfying regardless of whether anyone discovers that the action was taken. Furthermore, they will be viewed positively by others if they learn of the action taken.


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