SEC Exemption for Financial Finders?

Posted on by

Today the SEC is holding a hearing prior to the release of a proposed exemption permitting financial finders to raise money for small businesses without violating the Federal law which classifies such finders as unregistered broker dealers.

Offer would be restricted to accredited investors and anti-fraud rules would still apply.

This relief has been sought for decades. As of now, a no-action SEC letter exempts finders in M&A transactions from broker status, subject to very detailed guidelines, but that exemption (not binding on private litigants or States) expressly excludes financial finders.

One issue seems to be that the proposed exemption will not eliminate State regulation and States have been, at least theoretically, very strict on defining finders as brokers. Whether they will follow the Federal lead, or whether ultimately the SEC will attempt to over-rule State law in this area, are important open questions.

No doubt the proposal will be subject to a public comment period. We await details. I will post periodically on the progress of this long-awaited SEC initiative. Kudos to Chairman Clayton for finally addressing this knotty issue.

Trade Secrets:Working from Home?

Posted on by

How does a company maintain protection of trade secrets when its workforce is remote? It is hard enough when you are in the office; then, you can police the flow of paper, lock things in cabinets with sign-outs, keep all information on company IP systems, maintain morale to decrease temptation.

Although the level of remote work today in unprecedented, people have been working remotely for many years. So there is court guidance on what a company program should look like to make sure that your trade secrets remain protected and cannot be legally used by others.

You can: have a written “work from home” agreement or policy reminding that trade secrets are to be maintained; do on-line training; reiterate extant trade secret and noncomp agreements; require use only of company IT systems; prohibit screen shots; protect business matters from others in the household; while proprietary information now will likely be disseminated simultaneously to several people, use IT to establish a log-in and delete protocol with a ban on copying; establish an identified executive with authority to control access when there is a question; continue to avoid publication; continue to require third parties (customers and vendors) with necessary access to sign a trade secret agreement or clause; make clear by agreement or policy that working from home or permitted or accidental use of non-company computer hardware( or systems or sites) does not result in a loss of trade secret status; do not abandon exit interviews to remind people of their secrecy obligations.

And since maintenance of trade secrets is much a matter of procedures to enforce intent, companies should document these efforts. Indeed, today is a good time to review, update and reiterate trade secret policies across your company. Your lawyers and HR people should be prompted to attend to the issue of trade secret maintenance in light of changing work patterns.

Mid-Market M&A

Posted on by

Has COVID killed mid-market private company M&A? Well, about 60% of it. And it has changed the other 40% in certain ways. As to the future? See below for Q-3 report and expected trends, per GF Data:

Deal volume was down c. 60% in Q-2 and continued to lag. The best deals got done. Quality meant a decline in need for warranty insurance, a likely trend with temporarily falling cost from those insurers still active; increase in claims may halt price declines, increase retainage.

Although some deals relied on earn-outs for price protections both ways, the bigger trend was to roll-overs (principal sellers putting between 10% and 35% of proceeds back in as forward investment). This gave buyers confidence, and also cut down on subdebt and senior debt (which were harder to get), those strips being filled by seller investment. Further, since the better deals got sold, price multiples remained strong.

What had leeway in terms of investor metrics? Deals got done where revenues were maintained; allowance was given for increased expense on the supposition that COVID was not permanent.

Family offices were thought to be slow to act, and the good deals went down fast, so not a major season for family shops.

The future? As running a company has become less fun these days, sell-side brokers note an increase in companies coming forward for sale. For deals already in the pipeline, fear of upwardly revised cap gains tax rates for 2021 (if Biden prevails) may increase seller pressure for a 2020 close (query will it also thus soften seller pressure on price and deal terms)?

SEC Deregulation Continues

Posted on by

First, in August the SEC widened the definition of “accredited investor” to permit a broader range of investors to fall under the Regulation D exemption which permits companies to issue shares without registering them with the SEC. While the changes are technical, generally they exempt sales to holders of various securities licenses, employees of private investment funds, most advisers on investments, family members and clients of family offices with $5M or more under management, Indian Tribes and labor unions. Upon ultimate publication in the Federal Register, these changes take effect in sixty days.

On Wednesday, the SEC made it harder for investors in public companies to demand inclusion of shareholder proposals in proxies of public companies. The changes, again technical in nature, fundamentally require that a shareholder is entitled to add a proxy question only if that person held more shares for a longer period than under present law. These new rules are subject to various phase-in periods for meetings held after January 1, 2022. The new standards for proxy inclusion were praised by business groups and condemned by labor and investor advocates.

These, and other changes noted in prior posts here, reflect views of the 3-2 majority of SEC commissioners named by the President. The SEC has been loosening controls that exclude investors from participating in stock offerings and strengthening the ability of public companies to avoid interference from existing investors. I note that, in most cases of “deregulation,” there exists rational arguments on the side of the majority, and the fundamental structure of SEC oversight has not been materially weakened. Nonetheless, “liberal” observers have objected continually to these developments, both during the period that proposals are open for public comment and after those proposals have been codified.

SEC Changes OTC Rules

Posted on by

Yesterday, the SEC made significant changes to the standards brokers must meet in order to quote stock OTC.

These changes are detailed by amending SEC Rule 15c2-11; here are the important take-aways, bottom-line: more information is needed before a broker is allowed to deal in OTC stock (those securities not benefited by the disclosures required by listing on the recognized trading platforms); many OTC stocks have not provided this kind of information for a long time; some may not have the resources or the interest in complying.

These changes may thus make it impossible for investors to purchase OTC securities in certain companies. But those potentially most impacted are the current owners of OTC shares which now the brokers cannot list. Owners may be stuck as investors unless they can sell their shares on a negotiated one-off with a known buyer.

To soften the blow: there is a nine-month phase-in; companies can apply to the SEC for relief (not clear what the criteria are); the SEC may permit establishment of a so-called expert market where OTC shares without requisite filed information under 15c2-11 may be traded by (undefined) sophisticated or professional traders.

Interestingly, the SEC has been pushing to democratize access to the initial private sale of company shares by breaking down the two-tier system that permitted the smart and wealthy to buy while excluding the Main Street investors; and now, on the OTC resale side, they are suggesting institution of a two-tier model. How all this sorts out will be something to behold.

D&O Costs Spike

Posted on by

COVID keeps impacting markets in unanticipated ways. Most recent reports are a sharp upwards spike in director D&O insurance premiums. Some brokers report average increases in the US as between 60% and 74%.

Drivers: risk of litigation based on COVID, and increased risk of bankruptcy generally (D&O traditionally has covered directors even when companies are before the Bankruptcy Courts).

Companies which are financially weak may find that their insurers may also alter coverage to exclude claims heard in bankruptcy; the details of this exclusion are not clear to me.

COVID comes on top of other market dynamics which tend to increase risk and thus premiums: increased class action litigation, with new foci such as cyber breach and failures of corporate culture.

Future of Working Remote

Posted on by

Those of you who have ventured into downtown Boston have described the experience as a trip into emptiness; one of my partners remarked that you could hear crickets on the streets. Many people reading this post are working entirely or mostly remotely, and everyone says (vaguely) that this is a permanent thing. But what does that mean?

Enter a current study by Harvard Business School, which tries to put a metric to the generalization. Short answer is they estimate that 16% of the US workforce will work remotely at least two days a week once the “new normal” arrives.

Predictably, the higher the sophistication of the job and thus of the worker, the more likely this result. At present, that cohort is able to work remotely and has found reasonable levels of efficiency– no startling news here. Somehow, I find the Harvard projection very modest, as I would expect a much greater shift away from central offices, but that perception may be colored by personal experience and the currency of the pandemic threat.

Impact on real estate markets is not difficult to guess. Combined with new emphasis on space efficiency in office design (fewer square feet per employee) and reduced need for file storage (going electronic), remote working will mean empty city offices. Theoretically. No doubt there will be industry variables; hard to imagine life sciences being remote without labs for a simple example.

Personal reports from New York, again anecdotal, suggest a major permanent shift. Will executive functions be driven to the home or at least to the suburban areas and out of the urban core due to future concerns about COVID 19 and similar fears? I know of several people moving out of NYC to the “Island” on a permanent basis. I have a client presently looking for office space in Manhattan and per the broker the choice in size, location and price point is staggeringly large. Today, someone told me they bought a house in Maine as a permanent non-Boston work locale.

Lastly, query the impact on a trend for executive employment becoming materially remote on economic disparity. Many lower end jobs support working in the city cores, which are also generally accessible to lower income employees. You can make your own intuitive assumptions about maintenance and cleaning workers, building receptionists and parking garage attendants, waiters and cooks in restaurants, other city-based support trades (think about dry cleaners, hair salons, shoe repairs, eye glass stores to name a few such trades practiced in close proximity to my downtown office). Not so easy to relocate the folks who staff these functions to the Westons and Shaker Heights and Hamptons, even if the base need for these functions remains to some degree.

COVID Goes to Court

Posted on by

As I sit at my computer writing this post, I have at my side a single-spaced 187 page document listing in very brief summary all identified US court cases relating to COVID 19 — 1,522 of them. This data grows daily and is formally updated by our service provider every two weeks.

While intuitively this is not surprising, given the vast impact of COVID on society, business and politics, nonetheless a perusal of this list is elucidating as to the imagination of lawyers and the myriad interests of people and businesses which have been revealed and harmed by the pandemic. Clearly no blog post can give a comprehensive overview, but below are some selective items that provide insight.

Misrepresentations and fraud are alleged about efficacy of hand sanitizers, drugs, testing services, masks and PPE, and stocks touted in companies allegedly possessing anti-virus drugs or devices.

Persons with disability claim discrimination by reason of mask protocols, including for example a class action on behalf of the hearing impaired who cannot shop in stores where masks muffle words and cover lips.

Wrongful death against medical organizations and practitioners, cruise ship lines, nursing homes, and against the Republic of China for causing, failing to control or hiding facts about COVID.

Employment claims for improper firings and unsafe work standards.

Shareholder suits against companies for falsely claiming a COVID cure or for publishing optimistic projections in the face of COVID.

Suits for price gouging, breach of contract wrongfully (based on excuse of force majeure).

Suits against schools over tuition, testing, opening, not opening.

Suits against persons and companies for negligence in spreading COVID.

Suits to collect debts and rents not paid with COVID as the asserted defense.

Claims against insurance companies for failing to pay for losses due to COVID in a myriad of instances.

Constitutional challenges against orders to wear masks on the part of governments, based on impingement of free speech.

As if the above cases were not both expectable and depressing enough, I note that many court systems are running remotely, slowly, even barely. While court backlog and resolution of these cases are not the most pernicious fallouts of the pandemic, you can add these difficulties to the massive list of difficulties that will face the “new abnormal” — oh, excuse me please, the “new normal.”

Corporate Law: To Whom Do Boards Answer?

Posted on by

Today’s Wall Street Journal carries an op-ed by the two senior directors of the Harvard Program on Corporate Governance, which is both fascinating as to how corporations are managed and vital to an understanding of the job of a corporate director.

Simple (if simplistic) history: when I started practice many moons ago, it was quite clear that the role of the corporation was to profit shareholders by all legal means. Society recently has offered different goals, and ESG values have permeated corporate governance discussions. One year ago, the Business Round Table issued a famous Statement by over 180 major CEOs redefining the stakeholders to whom corporations owed duties to include employees, citizens, society.

So Professor Julian Bebchuk, chair of the Program, has attempted to survey the 180 companies signed on to the Statement. He found almost none of the companies responding had cleared the Statement with their Boards, and there is little reflection in amended company statements to support replacement of shareholders as the recipients of corporate benefits.

Interesting points: since the Statement calls for a fundamental shift in the role of the corporation (to whom do they answer?), the failure to get Board approval proves there will be no meaningful change; evidence on the ground proves that no changes are occurring.

The legal issues also are important: is it even possible to have ESG unless it can be convincingly argued that in the particular case it will add to shareholder returns? Most major companies are subject to Delaware law which is quite clear that primary duty is to shareholders. If you want to make societal goals primary, there is a wholly different mode of incorporation called a Public Benefits Corporation with its own set of statutes. This implies that a company formed under the General Corporations Act is not permitted to adopt a strategy unless it is believed by the board to ultimately profit shareholders.

Can ESG be saved by an assertion that at some point a corporation doing the right thing for society will surely be favored and be profitable and free from loss of customers and loss of good will? Need boards make specific findings in such a case, with assumptions and time lines? Do all beneficiaries of ESG realistically qualify to be part of an argument leading to shareholder value? Why does Professor Bebchuk suggest that perhaps ESG for the sake of stakeholders other than the equity is legally problematic (as well as not being pursued by its putative proponents)?

LIBOR Revisited

Posted on by

Seems we have been awaiting the death of LIBOR for years, and this benchmark measure of applicable interest rates in loans formally expires at the end of 2021. Of course, credit facilities entered into today quite often extend beyond that date; how is interest to be calculated per an agreement entered into today but relating to a period after LIBOR is gone?

Historically there have been two approaches per the US Commission dealing with this per the Fed: kick the decision down the time line (“amendment”) to see what makes sense nearer the end, or fix the replacement rate now (“hardwired”). The former provides flexibility but also will cause a mechanical crunch near the last date; the latter makes life easier but is indeed hard-wired.

In June the Committee stopped recommending the amendment approach, opting for hardwired present decision making. There is also the option to kick in the new measure before LIBOR dies.

The new available metrics are still up in the air, however. Variants of something called SOFR are being discussed; the details are beyond our scope and today possibly arcane to all but those involved in syndicated loans. But for those who are doing smaller loans with maturities that implicate the death of LIBOR, I offer the following suggestion (which is music to the ears of lawyers): better consult with your attorney.