Earlier this month, Herrick hosted its Eighth Annual Capital Markets Symposium. This year's panel event touched on recent developments in U.S. and international banking regulations, focusing specifically on Dodd-Frank and BASEL III enhanced capital requirements and the disengagement from proprietary trading and investments in hedge funds and similar private funds. The event was attended by more than one hundred guests who listened to the informative panel discussion and networked with fellow attendees.
Herrick partners Richard M. Morris and Patrick D. Sweeney joined a distinguished panel of financial experts from J.P. Morgan Chase, Carl Marks and Kimberlite Advisors to assess current developments in regulatory law. Thomas O'Neill, founding member of the Kimberlite Group, LLC and Co-CEO of Kimberlite Advisors, LLC gave the keynote address and participated in the discussion.
Delaware Court of Chancery Upholds Bylaws With Non-Delaware Forum Selection
In a recent decision, City of Providence v. First Citizens BancShares, Inc., the Delaware Chancery Court upheld a non-Delaware forum selection provision in the bylaws of a Delaware corporation, First Citizens BancShares, Inc. ("FCB"). FCB's board of directors amended FCB's bylaws to provide that the exclusive forum for intra-corporate disputes would be North Carolina, FCB's primary place of business. A shareholder, City of Providence ("Providence"), challenged the forum selection provision on various grounds, all of which were dismissed by the Court.
The Court held that FCB's forum selection provision is facially valid. The Court reasoned, relying on a 2013 decision (Boilermakers Local 154 Retirement Fund v. Chevron Corporation), that since FCB's charter grants to the board of directors the power to amend the bylaws, the investors therefore were on notice and had the expectation that the board may unilaterally amend the bylaws. The Court also stated that although Delaware, FCB's state of incorporation, is the "most obviously reasonable forum," nothing in Delaware law prohibits directors of a Delaware corporation from designating an exclusive forum other than Delaware in its bylaws.
The Court also held that the forum selection provision is valid as-applied. The Court's decision was guided by the United States Supreme Court decision The Bremen v. Zapata Off-Shore Company, which was adopted by theDelaware Supreme Court in Ingres Corporation v. CA, Inc. In Bremen, the United States Supreme Court held that forum selection clauses are valid provided they are "unaffected by fraud, undue influence, or overweening bargaining power" and that the provision "should be enforced unless enforcement is shown by the resisting party to be 'unreasonable'". Ingres held that forum selection clauses are presumptively enforceable. Providence raised three as-applied challenges, all of which the Court dismissed:
1. Delaware Had Overriding Interest: Providence claimed that Delaware has an overriding interest in resolving this "novel and substantial dispute" - the Court stated that "Delaware does not have an overarching public policy that prevents the stockholders of a Delaware corporation from agreeing to exclusive foreign jurisdiction;"
2. Timing of Adoption Renders Forum Unreasonable: Providence claimed that the timing of the adoption of the forum selection provision (simultaneous with the adoption of a merger agreement) renders it unreasonable - the Court found that Providence did not allege any well-pled facts calling into question the integrity of North Carolina courts, and therefore the fact that FCB's board adopted the forum selection provision on a "cloudy" as opposed to a "clear" day is immaterial.
3. Forum Selection Provision Unjust: Providence claimed that the forum selection provision is unjust because it cannot be repealed without FCB's majority stockholder - the Court dismissed this claim, stating that if it held that bylaws are not enforceable if they cannot realistically be repealed by a stockholder would be "tantamount to rendering questionable all board-adopted bylaws of controlled corporations."
City of Providence v. First Citizens BancShares, Inc., C.A. No. 9795-CB, Court of Chancery of the State of Delaware, September 8, 2014
New Jersey to Adopt Law Allowing Forum Selection Bylaw
The New Jersey Assembly Commerce Committee is taking up a measure that clarifies the scope of corporate by-laws and provides that corporate by-laws may include a forum selection requirement. Assembly Bill 2483 provides that by-laws of a corporation may contain any provision that is not inconsistent with the law or the certificate of incorporation and is related to the business of the corporation, the conduct of its affairs, and its rights or power or the rights or power of its shareholders, directors, officers or employees. The new law would allow for the by-laws of a corporation to provide that the federal and state courts in New Jersey may be the sole and exclusive forum for:
1) any derivative action or proceeding brought on behalf of the corporation;
2) any action by one or more shareholders asserting a claim of a breach of fiduciary duty;
3) any action brought by one or more shareholders asserting a claim against the corporation or its directors or officers, or former directors or officers, arising under the "New Jersey Business Corporation Act," or the certificate of incorporation; or
4) any other state law claim or other claim brought by one or more shareholders which is governed by the internal affairs or an analogous doctrine.
In addition, the bill clarifies that by-laws may provide that shareholders who file an action in breach of the forum selection requirement of the by-laws are liable for all reasonable costs incurred in enforcing the requirement and that certain directors and officers submit to personal jurisdiction in the forum that is selected in the forum selection requirement.
Recent Crackdown Shows Shift in How SEC Targets Late Filers
Late filings have become the latest focus of the SEC's "Broken Windows" initiative. On September 10, 2014, the SEC announced charges against numerous individual officers, directors and major shareholders of public companies for late filings of Form 4s, and Schedules 13D and 13G. In the past, absent other violations or wrongdoings, mere late filings have generally not provoked the SEC to take action, let alone impose financial penalties on individuals. This new crackdown signifies a shift in the status quo.
Public companies should also be vigilant in the activities of their corporate insiders, as the SEC, on the same day, announced it's charging of six public companies for failing to stop or report the late filings of their officers and directors, thus contributing to the delinquencies of those individuals. Settlements with these companies ranged from $75,000 to $150,000.
To date, individuals and companies have paid financial penalties totaling $2.6 million to settle these charges. The delays in filings range from as little as two days to several years. The SEC has been using quantitative analysis and ranking algorithms to pinpoint individuals and companies that repeatedly file late. Andrew J. Ceresney, Director of the SEC's Division of Enforcement stressed that inadvertence is not a defense for late filing and that his office will "vigorously police these sorts of violations through streamlined actions."
Delaware Court of Chancery Finds Lack of Entire Fairness Despite Fair Price in Recapitalization Transaction
The Delaware Court of Chancery recently held that a recapitalization transaction approved by the board of Nine Systems Corporation which significantly diluted the non-participating minority shareholders did not satisfy the entire fairness standard of review despite a finding of the transaction's fair price. The Court, in applying the entire fairness standard, found that the "general initiation" of the transaction was fair given that it allowed the company to purchase new lines of business, but the specific steps that occurred with respect to the process were unfair. In support of this finding, the Court cited the board's exclusion of its one disinterested director from both the vote itself and the overall vetting process of the proposed recapitalization. The Court emphasized the significance of this exclusion in light of the fact that the interested directors did not adequately represent certain minority shareholders. Further, the Court rejected the defendants' argument that the sole disinterested director's eventual approval of the transaction provided evidence of adequate support of the minority shareholders. In further illustrating the unfair process, the Court also pointed to the board's failure to be adequately informed about the effect of the board's valuation of the company at the time of the recapitalization. Last, the Court cited the board's failure to properly disclose details of the transaction to the non-participating shareholders, which per se amounted to unfair dealing. Ultimately, although the Court found that the price of the transaction was fair, the board failed the entire fairness test due to its grossly unfair process.
In Re Nine Sys. Corp. S'holders Litig., Consol. C.A., No. 3940-VCN (Del. Ch. Sept. 4, 2014)
Long-Awaited Relief Permits Commodity Pool Operators To Engage In General Solicitation And Advertising
Earlier this month, the staff of the Commodity Futures Trading Commission (the "CFTC") published long-awaited no-action relief harmonizing CFTC rules pertaining to general solicitation and advertising with Securities Exchange Commission ("SEC") rules promulgated under the JOBS Act. Following implementation of the JOBS Act, the SEC enacted Rule 506(c), which allows private fund managers to advertise their funds to the public, provided the fund sells only to accredited investors and the fund takes additional, or "enhanced," measures to verify that purchasers are accredited investors.
Although Rule 506(c) eased the restrictions on general solicitation and advertising, many private funds that engage in commodities trading have nonetheless remained unable to advertise to the public because of separate CFTC rules prohibiting general advertising. Specifically, private funds engaging in commodities trading have typically avoided registering with the CFTC as Commodity Pool Operators ("CPOs") by relying upon CFTC Regulation 4.13(a)(3), which exempts from the registration requirement funds that engage only in limited trading of commodity interests, or CFTC Regulation 4.7(b), which exempts funds that sell only to certain qualified investors. However, both exemptions contain separate prohibitions on general solicitation and advertising untouched by the JOBS Act, leaving the full benefits of Rule 506(c) out of reach for private funds engaged in commodities trading.Under the CFTC's recent no-action relief, private funds that would otherwise qualify as CPOs and be required to register as such with the CFTC may now take advantage of the exemptions from registration despite advertising to the public, provided certain criteria are met: namely, the manager must sell the fund in reliance on Rule 506(c), and the fund must file a notice with the CFTC containing basic identifying information and information about the exemption relied upon.
While the no-action relief is welcome news to fund managers wishing to take advantage of Rule 506(c) and advertise to the public, many uncertainties remain for funds relying upon Rule 506(c). Although the SEC has granted some limited guidance, the extent to which funds relying upon Rule 506(c) must verify purchasers' accredited investor status remains unclear. Additionally, the SEC has proposed many amendments to the rules related to general advertising that have yet to be adopted, including a proposal that would require pre-filing of advertising materials. Fund managers considering engaging in general solicitation should therefore continue to closely monitor SEC and CFTC rulemaking.
Second Circuit Clarifies Extraterritorial Application of Dodd-Frank Whistleblower Protections
In a decision further clarifying the Supreme Court's ruling in Morrison v. National Australia Bank Ltd. (130 S. Ct. 2869), the Second Circuit recently held that whistleblower protection provisions in the Dodd-Frank Act do not apply to extraterritorial conduct, even if the company accused of retaliating against the whistleblower has securities listed on a U.S. stock exchange. Liu Meng–Lin, a citizen and resident of Taiwan, was employed as a compliance officer for a Chinese subsidiary of Siemens AG, a German corporation with shares listed on the New York Stock Exchange. According to his complaint, Liu discovered that Siemens employees were indirectly making improper payments to Chinese and North Korean officials in connection with the sale of medical equipment, in violation of both company policy and U.S. law. Liu reported these alleged improper payments to his superiors through Siemens' internal reporting process. In response to his whistleblower actions, Liu claims he was demoted and ultimately fired. After Siemens fired him, Liu reported the allegedly corrupt conduct to the SEC and brought suit in the Southern District of New York, which ultimately dismissed the case on the grounds that, among other things, the anti-retaliation provisions of Dodd-Frank do not have "extraterritorial reach."
Liu appealed the dismissal to the Second Circuit, arguing that because Siemens "voluntarily elected to have a class of its securities publicly listed on the New York Stock Exchange", it "voluntarily subjected itself to" U.S. securities laws, including the anti-retaliation provisions of Dodd-Frank. The Second Circuit rejected this argument, applying the presumption against the extraterritorial application of U.S. laws set forth by the Supreme Court in Morrison. The Second Circuit noted that while the Morrison Court held that U.S. securities laws applied to "transactions in securities listed on domestic exchanges", it rejected Liu's contention that the U.S. securities laws "apply extraterritorially to the actions abroad of any company that has issued United States-listed securities". The Second Circuit further noted that nothing in the text or legislative history of the Dodd-Frank Act "suggests that Congress intended the anti-retaliation provision to regulate the relationship between foreign employers and their foreign employees working outside the United States."
The Second Circuit's decision clarifies and strengthens the principal set forth in Morrison and its progeny that, unless a "contrary intent appears", U.S. laws apply only within the territorial jurisdiction of the United States. However, the Second Circuit offered no direct guidance in its decision on what type of connection to the United States would be sufficient to overcome the presumption against extraterritorial application of Dodd-Frank, indicating that this area may be ripe for further litigation.
Liu Meng-Lin v. Siemens AG, 13-4385-CV, 2014 WL 3953672 (2d Cir. Aug. 14, 2014).
SEC Awards Whistleblower $300,000 for Reporting Violation
For the first time ever, the Securities and Exchange Commission (the "SEC") conferred a $300,000 whistleblower award to an employee with an audit or compliance function.
Section 21F of the Securities Exchange Act of 1934 requires the SEC to award monies to whistleblowers who provide the SEC with original information about a violation of federal securities laws if such information leads to the successful enforcement action by the SEC resulting in monetary sanctions of more than $1 million. Generally, information learned pursuant to an internal investigation by a company will not qualify for a whistleblower award and compliance or audit personnel are excluded from receiving whistleblower awards. However, a person in a compliance or audit function with a company may be entitled to a whistleblower award if such person reports the securities law violation to the appropriate company personnel (i.e. audit committee, chief legal officer, chief compliance officer, or supervisor) and either (i) the person has a reasonable basis to believe that disclosure of the information to the SEC is necessary to prevent the company from engaging in conduct that is likely to cause substantial injury to the financial interest or property of the company or its investors, (ii) the company is engaging in conduct that will impede an investigation of misconduct or (iii) 120 days elapse after disclosure of the information to the company and the company takes no action on the information or was already aware of such information.
In this particular case, the whistleblower initially reported the misconduct to a supervisor. When the company took no action on the information within 120 days of the disclosure, the whistleblower then approached the SEC with information of the securities law violation. The whistleblower's information led to a successful enforcement action by the SEC.
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