Investment Firms and Compliance Professionals Beware: SEC Finds Risks Associated with Outsourcing Compliance Function

On Monday, November 9, 2015, the Office of Compliance Inspections and Examinations (“OCIE”) of the U.S. Securities and Exchange Commission (“SEC”) released results from its evaluation of investment adviser firms’ use of third parties for compliance functions, including outsourced chief compliance officers (“CCO”).  Outside CCOs often perform important compliance responsibilities, including updating firm policies and procedures, preparing regulatory filings, and conducting annual compliance reviews.  Despite the importance of these functions, the Risk Alert (“Risk Alert” or “Alert”) indicated that several of the outsourced CCOs examined had not implemented effective compliance programs.  The Alert, available here, sends a cautionary signal to investment adviser firms considering outsourcing compliance functions.   This warning is particularly timely since government agencies, including the SEC, have increased their focus on financial firms’ compliance programs, and on CCOs in particular.

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To Hall(iburton) and Back: Will Third Time Be a Charm as Fifth Circuit Grants Another Appeal in Halliburton?

In what is now the third interlocutory appeal in the course of class certification  proceedings spanning more than a decade, the case of Erica P. John Fund, Inc. v. Halliburton Co. will head back to the United States Court of Appeals for the Fifth Circuit, with perhaps another trip to the Supreme Court to follow.  The Fifth Circuit’s eventual decision on this latest interlocutory appeal could clarify—at least in the Fifth Circuit—just how far a defendant in a securities class-action can go in presenting indirect evidence of (a lack of) price impact to defeat class certification.

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Investing in the Next “Big Thing” Just Got Easier – SEC Promulgates New Crowdfunding Rules

On October 30, 2015, the United States Securities and Exchange Commission (“SEC”) moved forward in implementing Title III of the JOBS Act and adopted new rules permitting companies to offer and sell securities to all potential investors through crowdfunding.  Crowdfunding is the use of small amounts of capital from a large number of investors to finance new business ventures.  This method of investment, typically conducted over the internet, is aimed at assisting smaller companies with capital formation by accessing a greater pool of potential investors.  The SEC had previously opened crowdfunding investment to “accredited investors” (investors meeting certain net worth and/or investment experience criteria) but these rules permit non-accredited investors, i.e., everyone else, to participate while providing them with additional protection under the federal securities laws.  Title III and these rules come in response to the enormous growth of equity crowdfunding through financing platforms such as GoFundMe, Kickstarter or Indiegogo.

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The End of Disclosure Only Settlements in M&A Cases? Not So Fast.

Disclosure-only settlements have been popular in the past – last year, about 80% of settlements in M&A-related lawsuits were for disclosures only, according to Cornerstone Research – but lately they have come under scrutiny.  The Delaware Court of Chancery has issued opinions refusing disclosure-only settlement agreements before, noting that at times in these cases “there is simply little to commend the process of weighing the merits of a ‘settlement’ of litigation where the only continuing interest is that of the plaintiffs’ counsel in recovering a fee.”  The incentives of attorneys on both sides can be such that “the potential claims belonging to the class [are not] adequately or diligently investigated or pursued.”

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Defrauded Defendant Defenseless Against Investors: Ninth Circuit Imputes Scienter of Embezzling CEO to Corporation for 10b-5 Claims

Malfeasance by a corporate insider against his company has the potential to leave a gaping wound.  Facing a securities lawsuit due to that malfeasance is like salt in that wound.  Corporations targeted with such lawsuits have turned to the adverse interest exception to try to protect themselves from further liability stemming from the rogue executive’s wrongdoing.  But on October 23, the U.S. Court of Appeals for the Ninth Circuit issued a precedent-setting decision rendering that salve unavailable.  In In re ChinaCast Education Corp. Securities Litigation, the court held that under the federal securities laws, an executive’s scienter is imputed to the corporation where he “acted with apparent authority on behalf of the corporation, which placed him in a position of trust and confidence and controlled the level of oversight of his handling of the business.”  Slip op. at 4.

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The Growing Power of Fair Price and Process in Delaware Appraisal Actions

On October 21, 2015, the Delaware Court of Chancery issued a post-trial opinion in an appraisal action in which it yet again found that the merger price was the most reliable indicator of fair value. Vice Chancellor Glasscock’s opinion in Merion Capital LP v. BMC Software, Inc., No. 8900-VCG (Del. Ch. Oct. 21, 2015), underscores, yet again, the critical importance of merger price and process in Delaware appraisal actions.   In fact, as we have previously discussed, Merion is just the latest of several decisions by the Delaware Chancery Court over the past six months finding that merger price (following an arm’s length, thorough and informed sales process) represented the most reliable indicator of fair value in the context of an appraisal proceeding.  See also LongPath Capital, LLC v. Ramtron Int’l Corp., No. 8094-VCP (Del. Ch. June 30, 2015);  Merlin Partners LP v. AutoInfo, Inc., No. 8509-VCN (Del. Ch. Apr. 30, 2015).

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Another Round of Favorable SEC Settlements, But Only for Underwriters that Self-Reported

The SEC has rolled out its second wave of enforcement actions against 22 municipal underwriting firms for alleged securities violations in municipal bond offerings in connection with its Municipalities Continuing Disclosure Cooperation (MCDC) Initiative.  As previously reported, the MCDC initiative was announced in March 2014 to address potential securities violations by municipal bond underwriters and issuers.  Under this initiative, the SEC offered favorable settlement terms to those who self-reported by the end of 2014.

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U.S. Supreme Court Says There Will Be No New Newman

Last Monday, the United States Supreme Court denied cert in the highly publicized insider trading case of United States. v. Newman, 773 F.3d 438 (2d Cir. 2014).  Without providing further commentary, the justices said they would not consider the Government’s challenge to the Second Circuit’s decision overturning the insider trading convictions of two hedge fund portfolio managers.  The Supreme Court’s denial means that the Second Circuit’s decision limiting the scope of insider trading liability remains good law.  It also signals the end of the Justice Department’s efforts to overturn a decision that the Government called a “roadmap for unscrupulous traders.”

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The SEC Opens Up a New Front in the Cybersecurity Wars

For the last few years, the SEC has been issuing guidance as to appropriate cybersecurity policies and procedures for financial firms.  In a move that signal’s the regulator’s willingness to put muscle into its cybersecurity guidance, the SEC announced an agreement with St. Louis-based investment company, R.T. Jones Capital Equities Management (“R.T. Jones” or “the company”), to settle charges that the company failed to adequately safeguard the personal information (“PI”) of approximately 100,000 individuals.  Consistent with this trend, the SEC has announced that its Office of Compliance Inspections and Examinations (“OCIE”) would be conducting a second round of investigations[1] into the cybersecurity practices of brokerage and advisory firms (the “Cybersecurity Examination Initiative”).  These moves signal the SEC’s increasing scrutiny of investment firms’ information security practices and indicate the regulator’s willingness to enforce the guidance that it has issued.

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D.C. Circuit Court “Tunes In” To SEC Administrative Court Debate

On September 29, 2015, the D.C. Circuit, the second federal appellate court to recently weigh in on the ongoing debate over SEC administrative actions, ruled in favor of the SEC in Jarkesy v. SEC, holding that federal courts do not have subject matter jurisdiction over challenges to ongoing SEC administrative enforcement proceedings.  Notably, and in accord with the Seventh Circuit’s recent decision in Bebo v. SEC, the D.C. Circuit’s decision was narrowly tailored – focusing only on the issue of subject-matter jurisdiction – but not the substantive viability of Jarkesy’s constitutional challenges.  The three-judge panel unanimously held that a party to a pending administrative proceeding must first defend against that proceeding, and only once the SEC proceeding concludes may the party seek review by a federal court.

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