Insights from Winston & Strawn

This edition focuses on corporate governance and its related issues. In particular, academics from the School of Accountancy at Singapore Management University recently posted in the Harvard Law School Forum on Corporate Governance and Financial Regulation discussions on the adoption and enforcement of clawback provisions. More specifically, the aim of such provisions is to provide for a punishment mechanism that links an executive’s compensation more closely to his or her financial reporting behavior. Clawbacks typically allow firms to recoup compensation from executives upon the occurrence of accounting restatements.

For European financial institutions, the issue of governance and management compensation are the subject matter of specific guidelines stemming from the Capital Requirements Directive (“CRD IV”)*. CRD IV acknowledges that corporate governance weaknesses in a number of institutions have contributed to excessive and imprudent risk­taking in the banking sector which has led to the failure of individual institutions and systemic problems in not just European countries, but also globally. The very general provisions concerning institutional governance and the non­binding nature of a substantial part of the corporate governance framework, based essentially on voluntary codes of conduct, does not sufficiently facilitate the effective implementation of sound corporate governance practices by institutions. CRD IV also acknowledges that remuneration policies which encourage excessive risk­taking behavior can undermine sound and effective risk management of credit institutions and investment firms.

As a result, CRD IV aims to implement international principles and standards at the European Union level by introducing an express obligation for credit institutions and investment firms to establish and maintain, for categories of staff whose professional activities have a material impact on the risk profile of credit institutions and investment firms, remuneration policies and practices that are consistent with effective risk management. Furthermore, under CRD IV, financial institutions have to apply sound remuneration policies to all staff and specific requirements for the variable remuneration of staff whose professional activities have a material impact on the institutions’ risk profile.

On March 3, 2015, the European Banking Authority (“EBA”) issued draft guidelines on sound remuneration policies under CRD IV and launched a three­month public consultation on its Guidelines on sound remuneration policies. These draft Guidelines set out the governance process for implementing sound remuneration policies across the European Union, as well as the specific criteria for mapping all remuneration components into either fixed or variable pay. Guidance is also provided on the application of deferral arrangements and the pay­out instruments ensuring that variable remuneration is aligned with an institution’s long­term risks and that any ex­ post risk adjustments can be applied as appropriate. These draft Guidelines aim to ensure compliance with the bonus cap introduced by CRD IV. In particular, the Guidelines clarify the process for identifying those categories of staff whose professional activities have a material impact on the institutions’ risk profile. Specific guidance is provided on how the ratio between the variable and the fixed components of remuneration should be calculated, taking into account specific remuneration elements, such as allowances, sign­on bonus, retention bonus and severance pay. The document also covers pay­out processes and types of instruments used to pay variable remuneration, which are in line with the provisions defined in the EBA standards on classes of instruments and the combination of different categories of instruments.

* Directive 2013/36/EU of the European Parliament and of the Council of June 26, 2013, on access to the activity of credit institutions and the prudential supervision of credit institutions and investment firms

Jérôme Herbet

Feature: Corporate Governance

Corporate governance issuers were the subject of a speech given by SEC Chair Mary Jo White at Tulane University Law School. White discussed the current state of shareholder activism, the shareholder proposal process, and fee­shifting bylaws. Regarding shareholder activism, White noted how it has evolved and the role the SEC plays, calling for greater civility during proxy battles.

Addressing shareholder proposals, White recounted how the Division of Corporation Finance reviews issuer requests to exclude shareholder proposals and explained why she and the Division have decided that during this proxy season, no view will be expressed on whether a shareholder proposal may be excluded under Rule 14a­8(i)(9) for directly conflicting with a proposal subsequently made by the company. The decision was driven by a deep concern that the application of (i)(9), as originally interpreted by the staff, could result in unintended consequences and potential misuse of the SEC’s process.

Discussing fee shifting bylaws, White said that SEC staff is focused on making sure the disclosures in company filings about its fee shifting provision, and the implications of such provisions, are clear. She warned that if the Commission comes to believe that these provisions improperly hinder shareholders’ exercise of their rights, it may seek to intervene in the discussion. View the text of White’s remarks here.

The CLS Blue Sky Blog published the abstract of Duke University visiting assistant law professor Ann M. Lipton’s article “Manufactured Consent: The Problem of Arbitration Clauses in Corporate Charters and Bylaws.” Lipton contends that “despite the contractual language that is used to describe corporate charters and bylaws, these documents are not subject to the [Federal Arbitration Act].” View the post here.

Recent posts from the Harvard Law School Forum on Corporate Governance and Financial Regulation (“HLS Forum”) include a summary of “Why Do Dual­Class Firms Have Staggered Boards” by Mira Ganor, professor at the University of Texas School of Law. The author writes: “While this study does not shine a positive light on staggered boards, it questions the conventional wisdom that views the staggered board as a sufficient entrenchment mechanism that secures management and allows it to shirk and extract private benefits.” View the post here.

The abstract of “Not Clawing the Hand that Feeds You: The Case of Co­Opted Boards and Clawbacks” is also available on the HLS Forum website. The paper, written by Sterling Huang, Chee Yeow Lim, and Jeffrey Ng, all of the School of Accountancy at Singapore Management University, theorizes that “co­opted boards are less likely to use clawbacks if there is a higher likelihood that he/she will have to act against the CEO in the future by enforcing clawback provisions. Using material internal control weaknesses and prior restatements to proxy for the need to enforce clawback in the future, we find evidence supporting this conjecture.” View the post here. discussed a recent study of CEO and CFO stock ownership policies. Over 80 percent of Fortune 500 firms require their top executives to hold company stock with a value of at least five times their base salary. Moreover, a growing number of firms are beginning to require their executives to hold at least six times their base salary in company stock. View the article here.

Boston University law professor Eric D. Roser summarized his paper, “Disentangling Mutual Fund Governance from Corporate Governance” for the HLS Forum. Roser notes the differences between mutual fund governance and ordinary corporate governance. He contends that these important differences must not be ignored and that recent SEC rulemakings have mistakenly imposed ordinary governance requirements on mutual fund boards. View the post here.

Banking Agency Developments

OCC Workshops

The Office of the Comptroller of the Currency (“OCC”) will host two workshops in Denver, Colorado on April 21­ 22, 2015 for directors of national community banks and federal savings associations. The Compliance Risk workshop on April 21 combines lectures, discussion, and exercises on the critical elements of an effective compliance risk management program. The workshop also focuses on major compliance risks and critical regulations. Revised and updated for 2015, the Credit Risk workshop on April 22 focuses on credit risk within the loan portfolio, such as identifying trends and recognizing problems. The workshop also covers the roles of the board and management, how to stay informed of changes in credit risk, and how to effect change. OCC Press Release.

Comptroller of the Currency Testifies Before Senate Committee

On March 19th, the Comptroller of the Currency, Thomas Curry, testified before the Senate Banking Committee on the OCC’s approach to tailoring regulatory and supervisory expectations to the size and complexity of supervised institutions. Curry Testimony.

Fed Governor Testifies Before Senate Committee

On March 19th, Reuters summarized the testimony of Federal Reserve Board (“FRB”) Governor Daniel Tarullo before the Senate Banking Committee. Tarullo said the FRB is preparing a new rule that would impose a long­ term debt requirement for bank emergency plans. Tarullo also supports the reconsideration of certain Dodd­ Frank Act thresholds for banks. Tarullo Testimony.

Federal Reserve Proposes Use of LEIs

On March 16th, the FRB requested comment on a proposal that would require banking organizations to include their existing Legal Entity Identifiers (“LEI”) on certain regulatory reporting forms. The proposal would require banking organizations to include LEIs for its relevant units on certain reporting forms as of June 30, 2015. Comments should be submitted within 60 days after publication in the Federal Register, which is expected shortly. FRB Press Release.

Treasury Department Developments

CFPB to Allow Financial Consumers to Make Public Their Complaints

On March 19th, the Consumer Financial Protection Bureau (“CFPB”) finalized a program that will allow consumers of financial products and services who submit a complaint to the CFPB to have the option to share their account of what happened in the CFPB’s public­facing Consumer Complaint Database. The CFPB is also publishing a Request for Information seeking public input on ways to highlight positive consumer experiences.

CFPB Press Release.

CFPB Seeks Comment on the Credit Card Market

On March 17th, the CFPB requested public comment on how the credit card market is functioning and the impact of credit card protections on consumers and issuers. The public inquiry focuses on issues including credit card terms, the use of consumer disclosures, credit card debt collection practices, and rewards programs. Comments should be submitted on or before May 18, 205. CFPB Press Release.

FinCEN Advisory

On March 16th, the Financial Crimes Enforcement Network (“FinCEN”) issued an advisory on the Financial Action Task Force’s updates to the list of jurisdictions with strategic anti­money laundering/combatting the financing of terrorism (“AML/CFT”) deficiencies. FIN­2015­A001.

Securities and Exchange Commission


Corporation Finance Issues Guidance on Administrative Waivers

On March 13th, the SEC’s Division of Corporation Finance provided guidance concerning when it will grant a waiver from the automatic disqualification provisions of Securities Act Regulation A and Regulation D. Under a delegation of authority, the Director of the Division has the authority to grant waivers while the Commission retains authority to consider waiver requests and review the Director’s actions. When considering a request for a waiver of Regulation A and Regulation D automatic disqualification provisions, the issues the Division will examine include: whether the violation involved the offer and sale of securities; whether the conduct involved a criminal conviction or scienter based violation; whether the applicant was also responsible for the misconduct; whether the misconduct was prolonged; and whether remedial steps have been taken. No single factor is dispositive, and the burden is on applicant to show good cause.

Other Developments

Investor Advisory Committee Meeting

The SEC’s Investor Advisory Committee will meet on April 9, 2015. Written statements should be submitted on or before April 9, 2015. SEC Release No. 33­9739.

When Bars Aren’t a Bar

On March 19th, Investment News recounted how a convicted fraudster barred from acting as a broker­dealer tried to re­enter the industry as an investment adviser while still in prison. Bars.

A Call for Harmony and Third Party Exams

On March 17th, the New York Times reported that SEC Chair Mary Jo White personally believes that a harmonized fiduciary duty standard should be adopted for investment advisors and broker­dealers. Harmony. On March 18th, Investment News said White has also called for third party examinations of investment advisors. Third Party Oversight.

Commissioner Piwowar’s Strong Words for Banking Regulators

On March 16th, SEC Commissioner Michael S. Piwowar, speaking at the Investment Company Institute’s annual conference, criticized the efforts of the banking regulators to expand their oversight to include investment management. Those efforts, Piwowar suggests, are simply an attempt by the prudential regulators to regulate a problem which they created. He notes, “liquidity in the fixed income market has been affected by regulatory decisions discouraging banks from intermediating risk and the resulting concomitant decline in bank inventories of fixed income securities. At the same time, the quantitative easing programs initiated by the Federal Reserve and other central banks have caused investors seeking yield to acquire debt securities with higher credit risk and generally lower liquidity. In other words, the prudential regulators believe that since they have caused capital market activities to exit the banking sector and move into the non­banking sector, where asset managers play a significant role, it is now necessary for the prudential regulators to regulate the non­banking sector.” Although

Piwowar believes that the SEC’s investment management regulatory framework is sufficient, he does see three areas where improvements can be made: fund data reporting should be available in interactive data format; a review of in­kind redemptions should occur; and the Commission should consider exercising its authority under Section 22(e) of the Investment Company Act to adopt rules concerning when an emergency exists warranting a suspension of redemptions. Piwowar Remarks.

Floating Alternatives

On March 16th, Bloomberg reported that some of the largest money market funds are considering different formats in response to SEC rules requiring the adoption of a floating net asset value. Floating Alternatives.

Draft EDGAR documentation

On March 13th, the SEC published draft EDGAR Filer Manual (Volume I) ­ General Information (Version 20); draft EDGAR Filer Manual (Volume II) ­ EDGAR Filing (Version 30); and draft EDGAR Form SDR­XML Technical Specification (Version 1.0).

Commodity Futures Trading Commission

Hong Kong Regulator Deemed Comparable.

On March 19th, the Commodity Futures Trading Commission (“CFTC”) issued an order to Hong Kong Securities and Futures Commission (“HKSFC”) permitting HKSFC licensed corporations authorized to solicit and accept orders and funds directly from U.S. customers for trading on any exchange subject to the HKSFC’s oversight without having to register with the CFTC as futures commission merchants (“FCMs”). This exemption follows similar exemptions granted to other foreign exchanges or foreign regulators pursuant to Commission Regulation 30.10. CFTC Press Release.

CFTC Amends Residual Interest Rule

On March 17th, the CFTC unanimously voted to adopt an amendment to Regulation 1.22.Under the amendment, the deadline by which FCMs will have to post residual interest will not automatically become earlier. Instead, the current deadline of 6:00 PM the following day will remain in place until the CFTC takes affirmative action. CFTC Press Release. According to a statement issued by CFTC Chair Timothy Massad, the CFTC will conduct a study of how well the current rule and deadline are working, the practicability of changing the deadline, and the costs and benefits of any change. Massad Statement.

The Future of Swaps

On March 16th, the Financial Times reviewed various proposals being vetted as efforts to reform the swaps market continue. Future Predictions.

Federal Rules Effective Dates

March 2015 ­ May 2015

Federal Deposit Insurance Corporation

March 2, 2015            Transferred OTS Regulations Regarding Possession by Conservators and Receivers for Federal and State Savings Associations. 80 FR 5015.

                                 Removal of Transferred OTS Regulations Regarding Rules of Practice and Procedure and Amendments to FDIC Rules and Regulations. 80 FR 5009.

Federal Housing Finance Agency

April 10, 2015            Federal Home Loan Bank Capital Stock and Capital Plans. 80 FR 12753.

Federal Housing Finance Board

April 10, 2015           Federal Home Loan Bank Capital Stock and Capital Plans. 80 FR 12753.

Securities and Exchange Commission

May 18, 2015             Regulation SBSR­Reporting and Dissemination of Security­Based Swap Information. 80 FR 14563.

Security­Based Swap Data Repository Registration, Duties, and Core Principles. 80 FR 14437.

Department of the Treasury

April 3, 2015              Department of the Treasury Acquisition Regulation; Technical Amendments.  80 FR 11595.

March 17, 2015          Privacy Act of 1974; Implementation. 80 FR 13764.

March 13, 2015          Documentation Related to Goods Imported From U.S. Insular Possessions. 80 FR 7537.

March 10, 2015          Government Securities Act Regulations: Large Position Reporting Rules. 79 FR 73407.

March 8, 2015            Extension of Import Restrictions Imposed on Certain Categories of Archaeological Material From the Pre­Hispanic Cultures of the Republic of El Salvador. 80 FR 12080.

Exchanges and Self­Regulatory Organizations

Chicago Board Options Exchange

Changes to Automated Improvement Mechanism and Solicitation Auction Mechanism Proposed On March 17th, the SEC provided notice of the Chicago Board Options Exchange’s filing of a proposed amendment to its rules regarding the ability of a Market­Maker assigned to an options class to be solicited as the contra party to an Agency Order in that class on the Exchange’s Automated Improvement Mechanism and Solicitation Auction Mechanism. Comments should be submitted within 21 days after publication in the Federal Register, which is expected during the week of March 23. SEC Release No. 34­74519.

International Securities Exchange

Amendments to Information Barrier Rules Approved

On March 17th, the SEC approved the International Securities Exchange’s proposed amendment of Exchange Rule 810 to permit information to flow to a member’s EAM unit, which handles the customer/agency side of the business, from its affiliated Primary Market Maker (“PMM”) and/or Competitive Market Maker (“CMM”) (jointly, “market makers”) unit. As amended, ISE Rule 810 will allow EAMs to know where, and at what price, their affiliated market makers are either quoting or have orders on the order book and to use that information to influence routing decisions. Supplementary Material .06 to ISE Rule 717, will also be amended to specify that the orders of a EAM unit and its affiliated PMM and/or CMM unit may interact within one second without violating the ISE Rule 717(d) and (e) order exposure requirements when the firm can demonstrate that: (1) the customer order was marketable when routed; (2) the EAM was not handling the affiliated market maker quote/order; and (3) the affiliated market maker quote/order was in existence at the time the customer order(s) were entered into the ISE system. In combination, the proposed amendments to ISE Rules 810 and 717 will make it possible for an EAM to route a customer order to the ISE to immediately interact with the quote or an order of an affiliated market maker, but only subject to the stated conditions. SEC Release No. 34­74521.

Risk Protection Measures Approved

On March 13th, the SEC approved the Miami International Securities Exchange’s proposed rule change to establish a voluntary Risk Protection Monitor functionality for orders and codify existing functionality regarding the Exchange’s Aggregate Risk Manager for quotes. SEC Release No. 34­74496.

National Futures Association

AML/CFT Advisory

On March 18th, the National Futures Association (“NFA”) notified members of the Financial Crimes Enforcement  Network’s advisory concerning updates to the list of jurisdictions with strategic AML/CFT deficiencies.  NFA Notice I­15­12.

The Options Clearing Corporation

OCC Proposes Clearance and Settlement Services for Energy Futures

On March 16th, the SEC provided notice of The Options Clearing Corporation’s filing of a proposed rule change to provide clearance and settlement services for energy futures contracts and options on Energy Futures contracts. In order to do so, OCC is proposing to add new risk models to its STANS methodology as well as to add a new “Schedule C” to the Agreement for Clearing and Settlement Services between OCC and NASDAQ Futures, Inc. Comments should be submitted on or before April 10, 2015. SEC Release No. 34­74511.

Judicial Developments

A Forward without a Future

On March 17th, the U.S. District Court for the Southern District of New York entered summary judgment in favor of the Securities Investor Protection Act trustee for Lehman Brothers Inc. (“LBI”). The Court held that a counterparty in over­the­counter foreign exchange contracts was not a customer. These transactions are forward contracts that  do not qualify as commodity contracts under the Bankruptcy Code’s commodity broker liquidation provisions. In re: Lehman Brothers Inc.

Class Action Securities Fraud Suit Reinstated

On March 16th, a split Fourth Circuit held that a class action securities complaint against a life sciences firm had been incorrectly dismissed. The district court improperly relied on SEC documents submitted by defendants in support of their motion to dismiss. The documents, defendants claimed, showed they lacked scienter since they established that defendants’ officers did not sell the issuer’s stock during the class period. However, the Court found that those documents should not have been considered by the district court because the complaint contained no references to alleged executive stock sales. More importantly, the documents failed to establish that there weren’t any stock sales. Finally, plaintiffs’ complaint sufficiently pleaded a strong inference that defendants knowingly or recklessly failed to disclose information from the FDA while releasing less damaging and incomplete information. Zak v. Chelsea Therapeutics International, Ltd.

Industry News

Implementation of OTC Margin Requirements Delayed

On March 18th, the Basel Committee on Banking Supervision and the International Organization of Securities Commissions extended to September 1, 2016, the date on which the exchange of both initial margin and variation margin for non­centrally cleared derivatives will begin. Under the original framework the phase­in period was to start on December 1, 2015. BIS Press Release. See also Financial Times.

An Insider Response

On March 16th, DealBook discussed two Congressional bills introduced in response to the Second Circuit’s opinion in US v. Newman, where the Court held that to sustain an insider trading conviction prosecutors must prove beyond a reasonable doubt that the downstream tippee knew that an insider disclosed confidential information and did so in exchange for a personal benefit. The proposed bills would broaden the definition of insider trading. Insider Response.

A Warning from Justice

On March 16th, Reuters recounted the remarks of Assistant Attorney General Leslie Caldwell. She warned that those banks which have entered into deferred prosecution agreements with the Justice Department risk having the agreements revoked if they are found to have engaged in additional criminal activity. Justice.

Winston & Strawn Upcoming Events & Speaking Engagements

The Real Deal Webinar Series: Recent Trends and Legal Developments You Should Consider in 2015 ­ Part II

We are pleased to bring you the next webinar in The Real Deal series, which covers current trends, challenges, and legal topics pertinent to IP issues in M&A transactions. Webinar.

Winston & Strawn Publications

SEC Shortens Minimum Period for Debt Tenders

On January 23, 2015, the Staff of the SEC issued a no­action letter that shortens the minimum offer period for tender offers for any debt security, regardless of credit rating, to a uniform period of five business days and allows issuers to offer other debt securities (in addition to cash) as consideration for the tendered debt securities. This Client Briefing explains the terms of the SEC’s no­action letter and what issuers must do to take advantage of it. Briefing.

Antitrust and Competition – The EU Weekly Briefing, Vol 3, Issue 10

The EU Weekly Briefing is designed to provide timely updates on recent European Union competition law by including a short description of, and links to, recent developments. Newsletter.