Please find below the October 2015 issue of the US Securities Law Digest. This update is intended to provide a compilation of recent legal news relevant to a capital markets practice in the London and international markets. The news pieces have been collected and summarized from various sources, and links to the original sources are provided.
We continue to welcome any feedback that you may have about the Digest.
The Electronic Settlement of Regulation S, Category 3 Securities
The Forum recently published a Practical Law article entitled “The electronic settlement of US Regulation S, Category 3 securities trading on the London Stock Exchange” which is now available at http://uk.practicallaw.com/.
The AIM rules and Regulation S, Category 3 issuers
On August 7, 2015, the London Stock Exchange (the “Exchange”) published AIM Notice 41 and issued new guidance in Inside AIM on Regulation S, Category 3 securities. Historically such securities have not been eligible for electronic settlement in the CREST system, operated by Euroclear UK and Ireland, which is the principal central securities depository for transactions on the Exchange. However, an electronic settlement solution has now been established to enable this and as a result, derogations from AIM Rule 36 will no longer be available from September 1, 2015.
See the Berwin Leighton Paisner Expert Legal Insights article here.
See the Forum for US Securities Lawyers in London article here.
Why Newman might not be headed to the Supreme Court
In the United States v. Newman insider trading case, the Solicitor General recently filed its petition for writ of certiorari, asking the Supreme Court to hear the case. While the court is unlikely to decide on the government’s petition until the end of the year, the petition may have actually diminished the chances that the Supreme Court will take the case.
The Court of Appeals for the Second Circuit (“Second Circuit”) held last year that an insider trading conviction requires that: (1) an insider tipper act for a “personal benefit” of financial consideration, or something at least akin to monetary gain; and (2) the remote tippee know that the insider tipper supplying the inside information acted for such a personal benefit. Following the Second Circuit’s decision, the Department of Justice (“DOJ”) sought rehearing but was denied. The Securities and Exchange Commission (“SEC”) weighed in too, asking the court in particular to reconsider its opinion that evidence of friendship between tipper and tippee is insufficient to prove the “personal benefit” necessary for tipping liability. The SEC asserted that this conclusion contradicts Dirks v. SEC, the Supreme Court’s leading insider trading decision which has been the law since 1983.
SEC sues 32 defendants involved in insider trading operation; DOJ files criminal charges against leaders
On August 10, 2015, the SEC filed a complaint against 32 defendants in the District of New Jersey for their alleged involvement in an international scheme to profit from stolen, confidential information regarding corporate earnings announcements. According to the SEC, the defendants hacked at least two newswire services’ computer servers to retrieve unpublished corporate press releases, subsequently using it to make trades generating over $100 million in profits. The SEC further asserted that the two leaders of the scheme designed a “secret web-based location to transmit the stolen data to traders in Russia, the Ukraine, Malta, Cyprus, France, and three U.S. states, Georgia, New York, and Pennsylvania.” The SEC contends that, for five years, the two leaders of the scheme (i) disguised their identity by posing as newswire service employees, using proxy servers, and/or using backdoor access-modules; and (ii) recruited traders by making a video that displayed their ability to steal earnings information prior to public release. In return for information, the traders paid the hackers either a percentage of the profits obtained from trading the stolen information, or a flat fee. The SEC Director called the scheme “one of the most intricate and sophisticated trading rings [the agency has] ever seen.” The U.S. Attorneys’ offices for New Jersey and the Eastern District of New York also announced criminal charges against nine of the same defendants, including the two leaders of the scheme.
See the Buckley Sandler Infobytes blog entry here.
Foreign Corrupt Practices Act
SEC unveils first FCPA enforcement action focused on hiring practices: BNY Mellon
The SEC has turned its FCPA enforcement program into a productive and important component of its overall mission. BNY Mellon agreed to pay $14.8 million for the hiring of three interns in order to curry favor with two government officials from a Middle Eastern sovereign wealth fund.
Hitachi Agrees to Pay $19 Million to Settle SEC FCPA Charges Arising Out of Improper Payments to South African Political Party to Obtain Power Station Contracts
On September 28, 2015, the SEC announced that Hitachi, Ltd. (“Hitachi”) has agreed to pay a $19 million civil penalty to settle charges that the company violated the books and records and internal control provisions of FCPA. The SEC alleged that Hitachi entered into an improper arrangement with a local South African company that Hitachi knew was affiliated with South Africa’s ruling political party, the African National Congress. According to the SEC, Hitachi made, and improperly recorded, payments to the local company in exchange for the local company’s exercise of political influence to steer power station construction contracts to Hitachi.
Beware of distributors: Mead Johnson settles Foreign Corrupt Practices Act ("FCPA") charges for over $12 million
On July 28, 2015, Mead Johnson Nutrition Company, an Illinois-based pediatric food producer, settled FCPA charges brought by the SEC for over $12 million. The SEC alleged that Mead Johnson’s majority-owned Chinese subsidiary improperly paid health care professionals at state-owned hospitals more than $2 million. The alleged payments were funneled through third-party distributors and were intended to induce the health care professionals “to recommend Mead Johnson’s nutrition products to, and provide information about, expectant and new mothers.” The conduct allegedly occurred from 2008 to 2013 and led to profits of approximately $7.77 million for the company.
The DOJ hires its own FCPA compliance expert to determine when a company should be criminally charged
On July 30, 2015, the Chief of the Fraud Section of the DOJ confirmed that the DOJ is hiring an attorney to serve as an FCPA compliance expert. The DOJ has long emphasized the importance of compliance and remediation, and with this new position, it is putting its money where its mouth is. There has never been a more explicit signal by the DOJ that companies need to enhance their anti-corruption compliance programs. The DOJ has made clear that it will reward companies that go beyond mere paper programs and instead design anti-corruption compliance programs that efficiently prevent misconduct and quickly detect improper payments when employees evade a company’s strong financial controls.
SEC subpoenas Flowserve Corporation related top FCPA investigation
On July 30, 2015, Flowserve Corporation, a global supplier of industrial pumps, valves, and seals, disclosed that the SEC had issued a subpoena in connection with an investigation of potential FCPA violations. Flowserve revealed earlier this year that it had terminated an employee of an overseas subsidiary for conduct that violated its Code of Business Conduct and “may have violated” the FCPA. It self-reported the matter to the SEC and the DOJ and has now completed an internal investigation. Flowserve stated that it “currently believe[s] that this matter will not have a material adverse financial impact,” but that there are no assurances that it will not be subjected to penalties and additional costs.
See the Buckley Sandler InfoBytes blog entry here.
SEC brings enforcement action against investment adviser
The SEC recently brought an enforcement action against an investment adviser under Regulation S-P for its “failure to adopt policies reasonably designed to protect customer records and information.” Although there is no evidence that any client suffered financial harm, the investment adviser settled for $75,000.
SEC flexes its muscle on accounting fraud and targets more individuals
The SEC recently announced the settlement or filing of a number of significant accounting fraud cases. Coupled with recent statements by the SEC and the DOJ, it is clear that accounting fraud is a priority and that individuals are in the cross hairs.
SEC sanctions investment adviser for materially false advertisements
The SEC recently instituted proceedings against a registered investment adviser and its founder, CEO and majority shareholder for allegedly making material misstatements and omissions regarding the amount of assets purportedly “managed” by the adviser. The SEC also alleged that the firm and its CEO made material misstatements regarding clients’ investment returns, claiming that such returns placed the adviser in the “top 1%” of firms worldwide, and failed to disclose that the returns related to a model portfolio did not reflect actual client experience.
On July 28, 2015, NCR Corporation, a leading global provider of ATM machines, announced that the SEC had decided not to pursue an enforcement action following an investigation of the company’s FCPA compliance. In 2013, the company disclosed that an anonymous whistleblower had alleged various FCPA and other violations in China, the Middle East (including Syrian sanctions issues), and Africa. The company stated that it had investigated internally and determined the allegations to be without merit. The company then disclosed the matter to the SEC and the DOJ, both of whom requested additional information. The company did not provide an update regarding the status of the DOJ’s inquiries.
See the Buckley Sandler InfoBytes blog entry here.
Failure to provide and evaluate 15(c) information leads to SEC enforcement action
On June 17, 2015, the SEC settled enforcement proceedings brought against the investment adviser, administrator and the interested trustees of the World Funds Trust (“WFT”) and World Funds, Inc. (“WFI”), and the independent board members of WFT, based on numerous alleged violations of Section 15(c) of the Investment Advisors Act of 1940. As part of the required advisory contract renewal process, Section 15(c) imposes a duty on directors to request and evaluate, and a duty on the adviser to furnish, such information as may reasonably be necessary to evaluate the terms of advisory contracts. According to the settlement order, the trustees of WFT and WFI, with the assistance of independent counsel, requested that the adviser and subadvisers provide certain materials and information in advance of the board meetings at which the contracts in question were to be considered. Among other things, the trustees requested that the adviser complete a questionnaire prepared by independent counsel that contained numerous questions about the adviser’s and subadvisers’ operations, compensation and compliance procedures. The questionnaire also requested information regarding fees paid by comparable funds.
The SEC recently announced that it granted a whistleblowing award that will range from $1.4 million to $1.6 million to a compliance officer who aided the SEC with an enforcement action against the officer’s company. The compliance officer approached the SEC after alerting the company’s management to imminent misconduct that would cause substantial financial harm to the company and/or its investors and the company’s management failed to act. This is only the second whisteblower award the SEC has made to an employee with internal audit or compliance responsibilities since the inception of the SEC’s whistleblower program in 2011. Whistleblower awards can range from 10 to 30 percent of the money collected in a successful enforcement action where fines exceed $1 million.
By law, the SEC may not disclose any information that may reveal the identity of the whistleblower; therefore, the SEC did not identify the compliance officer or the officer’s company.
U.S. courts continue to deny class plaintiffs' attempts to bring foreign law actions in U.S. courts to recover for potential losses in foreign transactions
In the wake of Morrison v. National Australia Bank, securities plaintiffs are no longer able to assert claims under the U.S. securities laws to recover potential losses for transactions that occur on non-U.S. exchanges. However, particularly in cases where plaintiffs have viable U.S. law claims for transaction in American Depository Receipts (ADRs), plaintiffs have attempted to bring claims under foreign law in the same U.S. suit as the ADR claims in order to recover for transactions in common shares that occurred on foreign exchanges. Some opt-out plaintiffs in the B.P. P.L.C. (“BP”) Securities Litigation successfully executed this strategy and were allowed to proceed with English law claims in the U.S. District Court for the Southern District of Texas. However, the BP case remains the outlier as courts in subsequent cases have refused to allow foreign law claims to proceed. For instance, while the opt-out plaintiffs in the BP case were successful, in a seemingly incongruous result, the Court declined to exercise supplemental jurisdiction over the class plaintiff’s English law claims.
See the Mintz Levin Cohn Ferris Glovsky and Popeo article here.
The Supreme Court addresses scope of Section 11 liability for statements of opinion
As the Supreme Court recently explained in Omnicare, Inc. v. Laborers District Council Construction Industry Pension Fund, the distinction between fact and opinion is significant when it comes to liability under Section 11 of the Securities Act of 1933 (the “Securities Act”). With Justice Kagan writing for the majority, the Court narrowed the circumstances where Section 11 liability may attach to an opinion. While the Court rejected the Sixth Circuit’s expansive view of Section 11 liability, it stopped short of allowing issuers of securities to immunize themselves from Section 11 liability by simply prefacing every statement with “I believe” or “I think.”
Federal court holds neither Janus, nor statute of limitations shields alleged "pump-and-dump" fraudsters from civil liability in SEC case
In another example of the limits to which defendants may successfully rely on the Supreme Court’s decision in Janus Capital Group, Inc. v. First Derivative Traders, earlier this summer, District Judge Leigh Martin May refused to dismiss an SEC enforcement action against the alleged perpetrators of a “pump-and-dump” scheme. The court also rejected the defendants’ statute of limitations defense. For both issues, the court’s order offers useful insights.
Second Circuit: Facebook shareholders lack standing for derivative suits challenging pre-IPO statements
Earlier this week, a Second Circuit opinion reinforced that federal courts take standing in derivative actions quite seriously, particularly when the alleged director misconduct predated the initial public offering (“IPO”). Corporate defense attorneys would be mindful to evaluate and bring standing challenges early in these cases to help save defense costs and protect their directors.
The Second Circuit affirmed the Southern District of New York’s dismissal of putative shareholder derivative actions brought against Facebook’s directors. In three separately filed suits, the shareholders alleged that the directors breached their fiduciary duties because Facebook’s Registration Statement—filed before Facebook’s IPO—failed to account for its projected mobile growth and decreasing revenue therefrom. Because the court concluded that the shareholders ultimately lacked derivative standing, the Second Circuit affirmed the lower court’s dismissal.
See the Carlton Fields Jorden Burt blog entry here.
SEC proposes liquidity management reforms for open-end and exchange-traded funds
The SEC has approved certain proposed rule reforms designed to enhance effective liquidity risk management by open-end funds, including mutual funds and exchange-traded funds (“ETFs”). With an estimated more than $15 trillion in such funds, these proposed rules are potentially significant to many markets.
New SEC "claw back" rules
On July 1 2015, the SEC, by a 3-2 vote, proposed new rules requiring public companies to “claw back” executive compensation mistakenly awarded due to accounting errors. The proposed rules—10D-1 under the Securities Exchange Act of 1934 —satisfy the last of the SEC’s rulemaking obligations under the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”). The finalized rules will join Section 304 of the Sarbanes-Oxley Act and Item 402(b) of Regulation S-K, which already impose reporting and claw back requirements on certain executive officers for compensation received as a result of misconduct.
SEC approves long-anticipated Finance Industry Regulatory Authority research rules
New Financial Industry Regulatory Authority (“FINRA”) Rule 2241 consolidates and expands upon legacy National Association of Securities Dealers (“NASD”) and New York Stock Exchange (“NYSE”) rules to address equity research analyst activities, equity research reports, and conflicts of interest relating to equity research analysts. New FINRA Rule 2242 for the first time regulates debt research analyst activities, debt research reports, and related conflicts of interest.
On July 16, 2015, the SEC approved two FINRA proposed rule changes pertaining to research analysts and research reports. The first rule change amends and consolidates into new FINRA Rule 2241 existing legacy NASD Rule 2711 and NYSE Rule 472 with regard to equity research activities. The second results in new FINRA Rule 2242, which for the first time imposes SRO regulation on debt research reports and debt research analysts. FINRA has not announced when these changes will take effect.
SEC considers updating the accredited investor definition
The accredited investor (“AI”) definition is a crucial component of the private placement market. As required by the Dodd-Frank Act, the SEC staff is reviewing the AI definition to determine whether to recommend changes to the SEC.
In addition, the House of Representatives is now also considering legislation that would expand the AI definition. The proposed legislation is titled the Fair Investment Opportunities for Professional Experts Act (the “AI Bill”). The AI Bill calls for the SEC to develop criteria to be used by FINRA to prepare and administer a test. Persons passing this test would be AIs.
NYSE requires notice of material news releases starting at 7 a.m.
On September 28, 2015, certain amendments to the NYSE Listed Company Manual will require listed companies to give the NYSE notice ten minutes before releasing "material news" during the hours of 7 a.m. through 4 p.m. on trading days. These amendments also advise companies releasing news at the end of the trading day to wait until the official publishing of their closing price or 15 minutes after the close of trading. Finally, these amendments clarify that material news should be released either in a Form 8-K filed with the SEC or in a press release issued to all major news wire services.
Corp Fin issues CDIs concerning "general solicitation" under Regulation D
Regulation D under the Securities Act conditions the exemption from registration that it provides on the absence of “general solicitation or general advertising”—terms that it does not define—except in the case of certain small (i.e., under $1 million) offerings under Rule 504 and offerings solely to AIs whose status as such is verified by the issuer under Rule 506(c). On August 6, 2015, the SEC’s Division of Corporation Finance issued 11 new CDIs (256.23–256.33) with respect to the interpretation of “general solicitation” under Rule 502(c) of Regulation D, summarized below:
SEC issues no-action letter permitting a fund-of-funds to invest in assets that may not be deemed securities
On June 29, 2015, the staff of the SEC issued a no-action letter to Grant Park Multi Alternative Strategies Fund, which operates as a fund-of-funds, stating that it would not recommend enforcement action under Sections 12(d)(1)(A) and (B) of the Investment Company Act of 1940 (“1940 Act”) if the Fund invests in assets that might not be considered securities under the 1940 Act, in addition to shares of underlying funds.