Dear <<First Name>>,
Please find below the February 2018 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.
We will be working to revitalise the Forum this year. In addition to resuming this popular bi-monthly US Securities digest, we will be relaunching the website, holding meetings and roundtables, launching a podcast, and publishing an updated version of our glossary.
Please feel free to forward this email on to any colleagues or contacts who may be interested.
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Daniel Winterfeldt
DWinterfeldt@reedsmith.com
Partner, International Capital Markets & US Securities
Reed Smith LLP
Founder and Co-Chair of the Forum
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Edward Bibko
Ebibko@jefferies.com
Managing Director and Head of Investment Banking Legal, EMEA
Jefferies
Co-Chair of the Forum
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US SECURITIES LAW DIGEST:
February 2018
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Opening remarks at the Securities Regulation Institute from SEC Chairman
On January 22, 2018, the US Securities and Exchange Commission’s (“SEC”) Chairman Jay Clayton gave the opening remarks at the Securities Regulation Institute. His speech, which remarks on the SEC’s approach to the remaining Dodd-Frank mandates and critiques ICOs and the role legal advisers play in respect to ICOs, can be found here.
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SEC Enforcement Division publishes its 2018 Priorities and 2017 Results
The SEC’s Division of Enforcement has published its annual report for fiscal year 2017.
The Report is available here.
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US regulator fines European banks for ‘spoofing’
Three European banks have been fined a total of over $40m to settle US charges of “spoofing” futures markets, extending the efforts of regulators to crack down on the illegal trading practice.
See the FT’s article here.
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SEC Charges Advisory Firm For Breaches Of Fiduciary Duties
On December 11, 2017, the SEC filed a complaint against two investment advisers, Westport Capital Markets, LLC (“Westport”) and its controlling shareholder, Christopher McClure, alleging that the advisers violated various provisions of the Investment Advisers Act of 1940 by failing to disclose conflicts of interest and receipt of fees and profits related to their investment decisions on behalf of clients, and by failing to seek the best execution for client transactions. Complaint, SEC v. Westport Capital Mkts. LLC, No. 3:17-cv-02064 (D. Conn. Dec. 11, 2017), ECF No. 1.
See Shearman & Sterling LLP’s blog here.
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FINRA Fines One Broker-Dealer US $2 Million for Flawed Email Review System, and Another Broker-Dealer US $2.8 Million for Inadequate Segregation of Customer Securities
Raymond James Financial Services, Inc., agreed to pay a fine of US $2 million to the Financial Industry Regulatory Authority (“FINRA”) for not maintaining an adequate system to review emails by its registered representatives. According to FINRA, the firm—which relied on a surveillance system that automatically identified emails containing certain preprogrammed words—did not choose words or phrases that would identify potentially problematic conduct in light of the nature of the firm’s business and prior disciplinary action taken against firm employees. Although the firm added and subtracted words over time, FINRA claimed it did so principally to reduce the volume of false positives rather than to ensure it captured all relevant emails. FINRA also claimed that the firm did not maintain adequate personnel and resources to monitor emails and “unreasonably” excluded certain firm personnel from monitoring, including persons in its headquarters office who serviced customer accounts in addition to other activities. The firm also agreed to augment its relevant policies and procedures as part of its settlement, as well as to conduct a select retrospective review of emails to assess potential securities laws violations.
Unrelatedly, JP Morgan Securities LLC consented to pay US $2.8 million to FINRA to resolve allegations that, from March 2008 through June 2016, it failed on occasion to segregate customers’ fully-paid-for foreign and domestic securities in good control locations as required by law. FINRA claimed this error occurred because of “design flaws and coding and data errors” in its computer systems that calculated its possession or control obligations. The systems were apparently legacy systems of Bear Stearns Securities Corporation which JPMS acquired in March 2008 and renamed JP Morgan Clearing Corporation (JPMCC merged with JPMS in October 2016). FINRA claimed that JPMCC did not have a “reasonable process” to ensure its possession and control systems worked properly or procedures to test its segregation process. In resolving this matter, FINRA noted JPMCC’s “extraordinary cooperation” by, among other actions, unilaterally engaging an independent consultant to review its possession or control issues and implementing new tools and systems.
See Gary DeWaal (Katten Muchin Rosenman LLP)’s blog entry here.
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High-frequency trading lawsuit may proceed against major exchanges
On December 19 2017, the U.S. Second Circuit Court of Appeals vacated a lower court's dismissal of a class action lawsuit claiming that the NYSE and NASDAQ, among other exchanges, violated trading rules by offering “high-frequency trading” (“HFT”) firms with extraordinary services that provided unfair advantages over ordinary investors. The complaint alleged that the exchanges sold HFT firms proprietary data feeds and co-location services, which gave them access to information earlier than other market participants or before such information was publicly available, and that the exchanges permitted HFT firms to submit complex order types that were hidden from ordinary listing on an individual exchange. In vacating the lower court decision, the Second Circuit held that the exchanges were not entitled to absolute immunity because they were not engaged in a traditional regulatory function, and that the exchanges intentionally created, promoted and sold the specific services that catered to HFT firms and disadvantaged investors who could not afford them. The appeals court decision paves the way for additional fraud and manipulation claims against the exchanges by plaintiff-investor groups.
See Withers’ alert here.
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Large Whistleblower Award to Non U.S. Person- Lessons for Anti-Corruption Compliance Programs
On December 5, 2017, the SEC awarded more than $4.1 million to a whistleblower for alerting the SEC to a multi-year securities fraud engaged in by his employer. The award is significant in that the recipient, a company insider who alerted the SEC to the securities fraud, is a non-U.S. national working overseas. This is not the first time that the SEC has awarded a large sum to a foreign whistleblower. The distinction for the largest award ever awarded goes to an award of $30 million awarded in 2014 to a whistleblower living in a foreign country. In that case the whistleblower provided the SEC with information about an on-going fraud that the SEC claimed was hard to detect.
See Pillsbury Winthrop Shaw Pittman LLP’s article here.
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PRESIDENT TRUMP’S TAX CUT AND JOBS ACT
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A Gift from the SEC Staff: Guidance Regarding ASC Topic 740
On December 22, 2017, the Staff of the SEC provided helpful guidance regarding accounting and disclosure issues arising from the Tax Cut and Jobs Act ("New Tax Law"), which became law on that same date. The guidance significantly alleviates anticipated burdens relating to the accounting implications of the New Tax Law.
Two Key Takeaways
- Staff Accounting Bulletin No. 118 addresses circumstances in which accounting required by ASC Topic 740 cannot be completed prior to the date on which financial statement are issued.
- Compliance and Disclosure Interpretation 110.02 clarifies that new tax rates would not constitute an "impairment" to deferred tax assets that would trigger a filing obligation under Item 2.06 of Form 8-K.
See Jones Day’s article here.
See Dechert LLP’s article here.
See Cooley LLP’s blog here.
See Kramer Levin’s alert here.
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Tax Cuts and Jobs Act could have significant impact on structuring of US and foreign investments
The New Tax Law, signed into law in late December by President Donald Trump, makes major permanent and temporary changes to the US federal tax system. The changes will have a significant impact on the structuring of US and foreign investments.
Proponents of the changes expect them to reduce capital flight and inversions to other jurisdictions and make investment through United States corporate structures more attractive, particularly for United States individuals owning interests in controlled foreign corporations.
See DLA Piper LLP’s article here.
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Silver Linings to Loss of Compensatory Deductions Under Section 162(M)
The recently enacted New Tax Law amended the Internal Revenue Code of 1986 to eliminate the performance-based exception to the $1mm deduction limit under Section 162(m) of the Internal Revenue Code of 1986 (“Section 162(m)”). This article discusses some of the new opportunities for publicly-traded corporations resulting from the New Tax Law’s amendment of Section 162(m).
Repeal of the performance-based exception to the $1mm deduction limit will have a financial impact on many publicly-traded corporations, but it will also simplify the administration of compensatory arrangements, and more importantly, will free the Compensation Committee to design compensatory programs that drive increases to shareholder value without the artificial restrictions of the performance-based exception. The result is that many publicly-traded corporations are likely to redesign their executive contracts, annual bonus programs and equity incentive plans to eliminate the restrictions that were otherwise required under the performance-based exception.
See Andrews Kurth Kenyon LLP’s article here.
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FINRA 2018 Priorities Letter Released
FINRA recently published its 2018 Annual Regulatory and Examination Priorities Letter, which identifies opportunities for firms to improve their compliance, supervisory and risk management policies or programs. The Letter includes areas that FINRA will focus their efforts on in 2018, and can be a template for upcoming examinations. While certain topics continue to appear on the annual letters, new topics are also included in the 2018 letter. As part of the ongoing initiative, FINRA will continue to provide resources for firms to improve in these areas, including measures to increase information sharing among firms and generally making more information available.
Fraudulent activities, for instance insider trading, Ponzi schemes, and other activities that damage the integrity of the market, continue to be an area of focus for FINRA, and improvement for firms. Cybersecurity also remains an on ongoing concern. Sufficient cybersecurity policies and procedures are mandatory, as FINRA will evaluate firms’ programs and their effectiveness at protecting customer information.
See Burr & Forman LLP’s blog here.
See the full 2018 FINRA Annual Regulatory and Examination Priorities Paper here.
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FINRA Proposes To Extend the Expiration Date of FINRA Rule 0180
On January 3, FINRA proposed a rule change to extend the expiration date of FINRA Rule 0180 (Application of Rules to Security-Based Swaps) to February 12, 2019. FINRA Rule 0180 temporarily limits the application of certain FINRA rules with regard to security-based swaps. The rule was originally designed to avoid disruptions resulting from the revised definition of “security” under the Securities Exchange Act of 1934, which was amended pursuant to the Dodd-Frank Act. The temporary rule is currently set to expire on February 12.
See Katten Muchin Roseman LLP’s digest here.
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New FINRA rules relating to Financial Exploitation of Seniors
In February 2017, the SEC approved: (1) the adoption of new FINRA Rule 2165 (Financial Exploitation of Specified Adults) to permit members to place temporary holds on disbursements of funds or securities from the accounts of specified customers where there is a reasonable belief of financial exploitation of these customers; and (2) amendments to FINRA Rule 4512 (Customer Account Information) to require members to make reasonable efforts to obtain the name of and contact information for a trusted contact person (“trusted contact”) for a customer’s account.1 New Rule 2165 and the amendments to Rule 4512 become effective February 5, 2018.
See FINRA’s FAQ’s on the topic here.
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DOJ Announces a New FCPA Corporate Enforcement Policy
On November 27, 2017, at the 34th International Conference on the Foreign Corrupt Practices Act (“FCPA”), Deputy Attorney General Rod Rosenstein announced a revised FCPA Corporate Enforcement Policy, which purports to lend certainty for companies grappling with the question of whether to voluntarily disclose violations. This new policy comes on the heels of the year and-a-half long FCPA Pilot Program. Prior to introducing the new Corporate Enforcement Policy, Rosenstein touted the success realized through the Pilot Program—an increase from 18 to 30 voluntary disclosures over an 18-month period. The new policy seeks to incentivize companies to voluntarily disclose FCPA violations and cooperate with the Department of Justice (“DOJ”) in remedying the violation.
See Dinsmore & Schohl LLP’s alert here.
See Clifford Chance LLP’s alert here.
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Top Federal Securities and Commodities Regulators Testify on Virtual Currency Regulation Before Senate Committee
In their testimony before the U. S. Senate Committee on Banking, Housing and Urban Affairs (the “Committee”), Chairman Jay Clayton of the SEC and Chairman J. Christopher Giancarlo of the Commodity Futures Trading Commission (“CFTC”) on February 6, 2018 discussed the role of their respective agencies with respect to regulatory oversight of virtual currencies. In opening remarks and published testimonies, Chairman Clayton and Chairman Giancarlo emphasized their desire to ensure the safety and soundness of U.S. financial markets, as well as to punish those who engage in fraudulent, manipulative and deceptive conduct in the virtual currency marketplace.
See Shearman and Sterling’s alert here.
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SEC is scrutinizing overnight blockchain companies: Chairman
The SEC is scrutinizing public companies that change their name or business model in a bid to capitalize upon the hype surrounding blockchain technology, SEC Chairman Jay Clayton said on 22 January 2018 at the Securities Regulation Institute.
See Reuters’ full article here.
See Morrison Foerster’s publication here.
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SEC Chairman Issues Major Statement on Cryptocurrency and ICOs
On December 11, 2017, SEC Chairman Clayton issued an important public statement outlining his views on cryptocurrencies and ICOs. In his statement, Chairman Clayton provided a clearer view of the SEC’s stance and offered the industry much awaited guidance on what, in the SEC’s view, constitutes a security in the context of rapidly evolving digital assets. Chairman Clayton’s remarks put the cryptocurrency and ICO community on notice that there will likely be further SEC enforcement activity in this area.
- SEC Chairman Jay Clayton weighed in on cryptocurrencies and initial coin offerings (“ICOs”) in a major statement.
- Chairman Clayton explained that, while not all tokens may be securities under the federal securities laws, simply calling a token something else does not bring an offering outside the SEC’s purview.
- “Key hallmarks” of tokens being securities include, in the SEC’s view, when an issuer: (i) emphasizes the possibility for tokens to appreciate in value or (ii) encourages a secondary market for tokens.
- Chairman Clayton’s statement, along with recent SEC efforts to stop certain ICOs, indicate that increased enforcement activity in this area is likely in 2018.
See Dechert LLP’s full update here.
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NFA Adopts Notice Requirements for CPOs and CTAs That Trade Virtual Currency Products
On December 14, 2017, the National Futures Association (“NFA”) issued reporting requirements (Reporting Requirements) obliging any NFA member commodity pool operator (“CPO”) or commodity trading advisor (“CTA”) to notify the NFA immediately once it has executed a transaction involving any virtual currency transaction or virtual currency derivative (including futures, options or swaps) on behalf of a commodity pool or a managed account. The adoption of the Reporting Requirements follows recent announcements by various futures exchanges and swap execution facilities regulated by the CFTC to offer derivatives on virtual currency products. The NFA pointed to the volatility of the underlying virtual currency products as justification for the new requirements.
Specifically, the Reporting Requirements mandate that:
- Effective December 14, 2017, any NFA member CPO or CTA that executes a transaction involving a virtual currency or virtual currency derivative must notify the NFA by amending the firm-level section of its annual questionnaire at: https://www.nfa.futures.org/electronic-filing-systems/annual-questionnaire.html.
- Beginning in the first calendar-quarter of 2018, NFA member CPOs and CTAs that have executed transactions involving virtual currencies or related derivatives will also be required to report the: (a) number of their commodity pools or managed accounts that have executed one or more transactions involving a virtual currency; and (b) the number of their commodity pools or managed accounts that have executed one or more transactions involving a virtual currency derivative during each calendar quarter.
See the Sidley Austin LLP blog entry here.
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CFTC Reasserts its Role in Virtual Currency Regulation with Enforcement Actions and Joint Statement with SEC
On January 19, 2018, the CFTC filed separate enforcement actions against two individuals and their respective companies for fraudulent activity involving virtual currencies. The next day, shortly after announcing the charges publicly, the CFTC released a statement with the SEC reiterating their joint commitment to stopping and preventing fraud in the offer and sale of digital instruments. Then, on January 24, the CFTC announced that it had unsealed charges against a virtual currency exchange website and its controlling individuals. Collectively, these actions confirm a regulatory environment of increased oversight of this emerging asset class.
See Ropes & Gray’s article here.
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Banking Organization Capital Plans and Stress Tests: Federal Reserve Issues Instructions and Supervisory Scenarios for the 2018 Comprehensive Capital Analysis and Review and Dodd-Frank Act Stress Test Exercises
On February 1, 2018, the Federal Reserve issued information applicable to the 2018 capital plan review process for bank holding companies (“BHCs”) with $50 billion or more in total consolidated assets and U.S. intermediate holding companies of foreign banking organizations. The Federal Reserve issuances included:
- its annual summary instructions for its supervisory CCAR program for 2018, which include aspects relating to the quantitative assessment and the Federal Reserve’s disclosures regarding CCAR results, which are applicable to all firms, as well as aspects addressing the qualitative assessment, which are applicable only to firms subject to the Large Institution Supervision Coordination Committee framework and “large and complex firms” (those that are U.S. global systemically important BHCs (“G-SIBs”), or that have $250 billion or more of total consolidated assets or $75 billion or more of total nonbank assets);
- a letter providing information on the 2018 horizontal capital review applicable to firms that are “large and noncomplex firms” (those that are not G-SIBs, and that have less than $250 billion of total consolidated assets and less than $75 billion of total nonbank assets); and
- its three supervisory scenarios—baseline, adverse and severely adverse—and exogenous add-on components applicable to certain firms for CCAR 2018.
See Sullivan & Cromwell LLP’s article here.
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SEC Approves NYSE Rule Change to Facilitate Listing Without an IPO
The SEC has approved a rule change to the NYSE listing standards to facilitate the listing of an issuer without conduction an IPO. According to the NYSE, the rule change is necessary to compete for listings that might otherwise by listed on NASDAQ.
As revised, the NYSE will, on a case by case basis, exercise discretion to list companies whose stock is not previously registered under the Exchange Act, when the company is listed upon effectiveness of a registration statement registering only the resale of shares sold by the company in earlier private placements.
See Stinson Leonard’s blog here.
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Senate Considers Legislation That Would Loosen BDC Restrictions
On January 18, 2018, the Small Business Credit Availability Act was introduced in the U.S. Senate and referred to the Committee on Banking, Housing, and Urban Affairs. The Act would amend the Investment Company Act of 1940 to change certain requirements relating to the capital structure of business development companies (BDCs) and direct the SEC to revise certain rules to allow BDCs to take advantage of securities offering and communication exemptions currently available to other companies.
See Morrison Foerster’s blog here.
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Registered Investment Company Update: New Guidance on Liquidity Risk Management Programs
On Jan. 10, 2018, the staff of the Division of Investment Management of the SEC posted responses to a number of Frequently Asked Questions (“Staff FAQs”) concerning liquidity risk management (“LRM”) programs required to be implemented pursuant to new Rule 22e-4 under the Investment Company Act of 1940 (“1940 Act”). Under Rule 22e-4, adopted by the SEC in October 2016, 1940 Act registered open-end management investment companies (other than money market funds) must adopt and implement written LRM programs that are reasonably designed to assess and manage liquidity risks. Elements of these programs must generally include:
- Assessment, management and periodic review of liquidity risk;
- Classification of portfolio investments into one of four liquidity categories;
- Establishment of a “highly liquid investment minimum”; and
- A 15 percent of net assets limit on the purchase of illiquid investments.
The Staff FAQs provide helpful guidance relating to the design of LRM programs for sub-advised funds (including multi-manager funds) and to issues uniquely associated with in-kind exchange-traded funds. They also provide guidance relevant to all funds that are subject to Rule 22e-4, particularly with respect to the delegation of responsibilities under the programs and variations in the classification of particular investments by different funds managed by the same adviser or sub-adviser.
See Schulte Roth & Zabel LLP’s alert here.
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Directly to a National Securities Exchange: Direct Listings
In June 2017, the SEC’s Division of Corporation Finance announced a new policy effective July 2017 that essentially extends the confidential submission process to all issuers while keeping the EGC process unchanged. The new policy also permits an issuer to submit for confidential review a registration statement filed to register a class of securities under the Exchange Act, such as a registration statement on Form 10 for a U.S. issuer or a Form 20-F for an FPI. An issuer must publicly file an Exchange Act registration statement at least 15 days prior to seeking its effectiveness. For certain large, privately held companies that have undertaken various rounds of private financings and may not have an immediate need to raise additional capital, a “direct listing” may be an attractive alternative to a traditional IPO.
Historically, there have not been many issuers that have undertaken a “Form 10 IPO” or “backdoor IPO,” but market dynamics have changed. However, for a unicorn, which has been able to raise capital in the private markets at attractive valuations, a direct listing may be a good alternative. A listing on a national securities exchange will provide much-needed liquidity for employees, early investors, and even venture capital and private equity sponsors. A unicorn, advised by financial intermediaries acting as financial advisers (not underwriters), likely will be able to attract the attention of additional or new institutional investors that might purchase its securities in the secondary market. These same financial intermediaries, or others familiar with the company, might provide research coverage following the listing of its stock on a securities exchange.
Listen to the Morrison & Foerster podcast here.
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