Developments in Securities Regulation, Corporate Governance, Capital Markets, M&A and Other Topics of Interest. MORE

Section 929I of the Dodd-Frank Act which provides an exemption from the Freedom of Information Act in certain circumstances has sparked a great deal of controversy.  The controversy in part was sparked when SEC Chairman Mary Shapiro sent a letter to Barney Frank outlining what many thought was an overly expansive interpretation of Section 929I.    Certain members of the Senate Judiciary Committee, and others, have introduced bills that would modify the exemption. 

While the debate has focused on Section 929I, it appears that Section 404 of the Dodd-Frank Act which also provides a FOIA exemption, has not attracted a great deal of attention.  Section 404 provides mechanisms for the SEC to collect information and reports from investment advisers (which post Dodd-Frank, can now include advisers to hedge funds and private equity groups).  Section 404 provides in part as follows:

“The Commission, the Council, and any other department, agency, or self-regulatory organization that receives information, reports, documents, records, or information from the Commission under this subsection, shall be exempt from the provisions of section 552 of title 5, United States Code, with respect to any such report, document, record, or information.”

It will be interesting to see how the debate plays out.

The Federal Deposit Insurance Corporation on August 12, 2010 announced an open door policy that will make it easier for the public to give input and track the rulemaking process as the agency implements the Dodd-Frank Wall Street Reform and Consumer Protection Act.

 The policy goes well beyond what is required by the Administrative Procedure Act that governs federal rulemakings. Under the new policy the public will have a larger role in the process than ever before, especially being able to participate even before regulatory reform rules are drafted and proposed. What’s more, public disclosure of meetings between senior FDIC officials and private sector individuals will enhance openness and accountability. This voluntary public disclosure policy will apply to meetings discussing how the FDIC should interpret or implement provisions of the Dodd-Frank Act that are subject to independent or joint rulemaking by the FDIC.

 Section 712(d) and 721(c) of the Dodd-Frank Act requires the SEC and CFTC to define certain terms such as “swap”, “security-based swap”, “swap dealer”, “security-based swap dealer”, “major swap participant”, “major security-based swap participant”, “eligible contract participant”, and “security-based swap agreement”.   The SEC today posted this concept release to gather public input for the purpose of defining those terms together with the regulation of “mixed swaps.”

In addition, the Securities and Exchange Commission and Commodity Futures Trading Commission staffs will hold a public roundtable on August 20 to discuss issues related to governance and conflicts of interest in the clearing and listing of swaps and security-based swaps.

The roundtable will assist both agencies in the rulemaking process to implement the Dodd-Frank Wall Street Reform and Consumer Protection Act.

Steve Quinlivan and Jill Radloff will speak at a seminar sponsored by Minnesota CLE titled “New Wall Street Reform Act.”  Steve is chair of the seminar.  The date of the event is September 28, 2010.  Course information can be found here.

The Office of the Comptroller of the Currency, Board of Governors of the Federal Reserve System, and the Federal Deposit Insurance Corporation, issued an advance notice of rule making regarding alternatives to the use of credit ratings in the regulatory capital guidelines.  The Office of Thrift Supervision plans to join the other federal banking agencies in issuing this advance notice pending clearance by the Office of Management and Budget.

 The advance notice is issued in response to section 939A of the Dodd-Frank Wall Street Reform and Consumer Protection Act (Act), enacted on July 21, 2010, which requires the agencies to review regulations that (1) require an assessment of the credit-worthiness of a security or money market instrument and (2) contain references to or requirements regarding credit ratings. In addition, the agencies are required to remove such references and requirements and substitute in their place uniform standards of credit-worthiness, where feasible.

 Through this advance notice, the agencies are seeking to gather information as they begin to develop alternatives to the use of credit ratings in their capital rules. This advance notice describes the areas in these capital rules where the agencies rely on credit ratings, as well as the Basel Committee on Banking Supervision’s recent amendments to the Basel Accord. The advance notice solicits comment on alternative standards of creditworthiness that could be used in lieu of credit ratings. It requests comment on a set of criteria the agencies believe are important in evaluating creditworthiness standards, including risk sensitivity, transparency, consistency, and simplicity. It asks for comment on a range of potential approaches, including basing capital requirements on more granular supervisory risk weights or on market-based metrics, as well as on how these approaches might apply to different exposure categories. It also seeks comment on the feasibility of and burden associated with alternative methods of measuring creditworthiness for banking organizations of varying size and complexity.

Section 413 of the Dodd-Frank Act directs the SEC to adjust the net worth standard in the definition of accredited investor used in Regulation D.  Regulation D is often used, including by small businesses, to raise capital.  It provides an exemption from having to comply with the registration requirements of the Securities Act, which can be costly and time consuming.

Prior to the adoption of the Dodd-Frank Act,  a person was an accredited investor if a person had a net worth, or a joint net worth of a person and any spouse, of not less than $1,000,000.  Section 413 modifies this standard by excluding the value of the person’s primary residence from the net worth calculation.  The $1,000,000 standard excluding the value of a person’s primary residence was immediately applicable upon adoption of the Act.

While Regulation D provides an exemption from having to comply with the registration requirements under federal securities laws, companies raising capital must also comply with securities laws of the state in which an investor resides.  Those state laws are often referred to as “blue-sky” laws.  As a result of Dodd-Frank, some states are having to modify their blue sky laws.  For instance, Oregon has proposed an amendment to its administrative rules to align its definition with Dodd-Frank.  The Oregon rules apparently repeat the text of the definition of accredited investor in its entirety, thus necessitating an amendment.

The Minnesota statute is structured differently from Oregon, however.  Minn. Stat.  § 80A.41(1) defines an accredited investor “as the term is defined in Rule 501(a) of Regulation D adopted pursuant to the Securities Act of 1933.”  The related blue sky rule uses the same approach.

The Dodd-Frank Act effectively amended the definition of “accredited investor” upon enactment.  As a result, it likely is not necessary for Minnesota to amend its statute and rules like Oregon.  We believe those conducting exempt offerings in Minnesota should interpret the statute accordingly.

Jill covered some of the basic points of the SEC’s prior proposal on proxy access here.  My recollection is  the proposal received a record number of comments from the public.  To some, the proposal was highly controversial, and to others the proposal just did not work well.  The only thing we can predict with accuracy is the final rules will contain some significant deviations from the proposal and not everyone who voiced an opinion is going to be happy with any final rule.

 My comment letter to the SEC is here.  Some of the points I raised in my comment letter were:

 The Rules Should be Revised to Specify What Steps a Registrant Can Take to Oppose a Shareholder Nominee

 The proposed amendment to Item 7 of Schedule 14A will require the registrant to include a 500 word statement of the nominating shareholder in support of the nominating shareholder pursuant to Rule 14a-18(l).  However, the Rules do not provide any clarity as to what the registrant may state in opposition to this statement, other than the registrant’s board recommendation included on a proxy card as set forth in Rule 14a-4.  While footnote 217 to the proposing release states the process will be similar to the practice under Rule 14a-8, the extent that the registrant may lawfully oppose the shareholder nominee is not clearly set forth in the rules.  In this regard I note that Rule 14a-8(m) specifically permits the registrant to oppose a shareholder proposal, and that guidance is missing from the proposed rules. The Commission should adopt proposed rules similar to Rule 14a-8(m).

 Likewise, the rules permit nominating shareholders wide latitude to make statements in support of its nominee outside of the proxy statement under Rule 14a-2(8).  The Commission should clarify the ability for the registrant to permissibly make solicitations in opposition to the shareholder nominee outside of the proxy statement.

The Rules Should be Revised so that They Will Not Deter Settlements with Activist Investors

 Rule 14a-18(d) as written will likely have the effect of deterring settlements between the registrant and activist investors.  Activist investors often negotiate with registrants for representation on the board of directors.  Ideally, one way for a registrant to satisfy an activist investor would be to agree not to oppose the eligibility of an activist’s nominee pursuant to the proposed rules and let the shareholders decide whether to elect the activist.  However, if the registrant were to agree to such an arrangement, an activist investor could not represent there is no agreement with the registrant regarding the nominee as required by Rule 14a-18(d).  In addition, a registrant may be reluctant to otherwise settle with an activist if another shareholder nominee can be included in the proxy statement by another shareholder.  As a result, Rule 14a-18(d) should be revised to (i) permit a registrant to agree not to contest the eligibility of a shareholder nominee and (ii) if the registrant has settled a threatened election contest by placing a shareholder’s designee on the board of directors, further shareholder nominees would not be permitted under the proposed rules for a specified period of time.

 The Rules Should be Revised to Specify the Appropriate Course of Action When Multiple Nominations Are Received on the Same Day

 It is possible that a registrant could receive multiple nominations from different shareholders or groups on the same day.  In such event, how does the registrant determine who is the “first nominating shareholder or shareholder group from which the registrant receives timely notice” under proposed Rule 14a-11(d)? Does the rule hinge on receipt of the notice “sent” to the registrant pursuant to the fist paragraph of Rule 14a-18, the “simultaneous” notice to the registrant referred to in Rule 14n-1, dissemination of the notice pursuant to Rule 14n-3, or constructive receipt by filing of the notice on the EDGAR system? If it is in the order in which the Schedule 14N is received on the EDGAR system that should be made clear.

 The Rules Should be Revised to Provide Guidance on a Registrant’s Course of Action When the Registrant Believes One Nomination is Not Eligible and Another Nomination is Received

 A registrant may receive a nomination which the registrant believes does not meet the criteria for inclusion under Rule 14a-11, and the registrant may then follow the procedures under Rule 14a-11(f).  A registrant may then receive a proposal from a second nominating shareholder that it believes is eligible for inclusion under Rule 14a-11.  However, at this point the registrant may not know whether the Commission will agree with its decision to exclude the first proposal, yet the registrant is required to advise the second nominating shareholder within 14 days of whether its proposal will be excluded as required by Rule 14a-11(f)(3).  The rules should provide for guidance in this area.  Is the registrant supposed to notify the second nominating shareholder that the nomination is not eligible pursuant to the procedures under Rule 14a-11(f) and wait until eligibility for the first nomination is finally determined?  Or the rules could be revised to allow the registrant to defer notifying the second nominating shareholder as to exclusion of its proposal until such time as the SEC has taken action on the first nomination.

Michael Barr, Treasury Assistant Secretary for Financial Institutions, outlined the path forward for implementing the Dodd-Frank Act on August 10, 2010.

 Mr. Barr noted the agencies involved in implementing financial reform are in the process of establishing timelines for moving forward on the scores of studies, regulations, and other regulatory actions required by the Dodd-Frank Act.  In some critical areas, the agencies are already drafting proposed rules for public comment.  

 Mr. Barr stated the Financial Stability Oversight Council will meet for the first time in September and will establish an integrated road map for the first stages of reform and put that in the public domain.

 He discussed that Treasury is going to move quickly to begin shaping reforms of the derivatives market. In this process, Treasury will work with the Fed, the SEC and the CFTC to develop specific quantitative targets and timelines for moving the standardized part of the over-the-counter derivatives business onto central clearing houses. 

 The full text of Mr. Barr’s remarks are here.

Section 971 of the Dodd-Frank Act provides that the SEC may prescribe rules that permit shareholders to include nominees for election as directors in proxy statements and prescribe certain procedures the issuer must follow.  This provision will eliminate debate that has occurred in the past as to whether the SEC has power to adopt proxy access rules.  While the SEC is not required to adopt proxy access rules, it is widely expected that it will do so.

Given the expectation that the SEC will adopt proxy access rules, it is useful to review the SEC’s prior rule making efforts since those proposed rules may serve as a starting point for rules to be issued by the SEC in the future.  In July 2009, the SEC issued proposed rules pursuant to Release No. 33-9052 titled “Proxy Disclosure and Solicitation Enhancements.” After extensive comments were received on the prior proposal, the SEC reopened the comment period, as noted in Release No. 33-9086 titled “Facilitating Shareholder Director Nominations.”

Under the prior proposal, certain shareholders would have been able to include their nominees to the board of directors in the company’s proxy materials unless the shareholders were otherwise prohibited — either by applicable state law or a company’s charter/bylaws — from nominating a candidate for election as a director.

The prior proposal applied to all Exchange Act reporting companies, including investment companies, other than companies which only have a class of debt securities registered under the Exchange Act.

Shareholders would have been eligible, under the prior proposal, to have their nominee included in the proxy materials if:

  • They owned at least 1 percent of the voting securities of a “large accelerated filer” (a company with a worldwide market value of $700 million or more) or of a registered investment company with net assets of $700 million or more.
  • They owned at least 3 percent of the voting securities of an “accelerated filer” (a company with a worldwide market value of $75 million or more but less than $700 million), or of a registered investment company with net assets of $75 million or more but less than $700 million.
  • They owned at least 5 percent of the voting securities of a non-accelerated filer (a company with a worldwide market value of less than $75 million) or of a registered investment company with net assets of less than $75 million.

The prior proposal limited the number of directors a shareholder may nominate and have elected to the board.  No more than one shareholder nominee, or a number of nominees that represents up to 25 percent of the company’s board of directors, whichever is greater, could be nominated or hold board seats at any one time.  For example, if the board was comprised of three members, one shareholder nominee could be included in the proxy materials. If the board was comprised of eight members, up to two shareholder nominees could be included in the proxy materials.

Other facets of the prior proposal included:

  • Groups of shareholders would have been able to aggregate holdings to meet applicable thresholds.
  • Shareholders would have been required to have held their shares for at least one year.
  • Shareholders would have been required to sign a statement declaring their intent to continue to own their shares through the annual meeting at which directors are elected.
  • Shareholders would have been required to certify that they were not holding their stock for the purpose of changing control of the company, or to gain more than minority representation on the board of directors.

Of course, we have no way of predicting whether the SEC will use the prior proposal as a starting point, but we think it is useful for those interested in the subject to refresh their recollection on the mechanics involved.

The FDIC Board of Directors today approved the creation of a new Office of Complex Financial Institutions (CFI) and Division of Depositor and Consumer Protection (DCP) to help carry out its responsibilities under the Dodd-Frank Wall Street Reform and Consumer Protection Act.

The CFI will perform continuous review and oversight of bank holding companies with more than $100 billion in assets as well as non-bank financial companies designated as systemically important by the new Financial Stability Oversight Council. CFI will also be responsible for carrying out the FDIC’s new authority under the Act to implement orderly liquidations of bank holding companies and non-bank financial companies that fail. The FDIC believes the absence of such authority exacerbated the recent financial crisis, when such firms as AIG, Lehman Brothers, and Bear Stearns became insolvent.

 See the FDIC’s full press release here.

 Separately the Wall Street Journal reported (subscription required) that federal regulators expressed concern that certain provisions of the Dodd-Frank Act could do more harm than good.