Securities Regulation
SEC Increases the Number of Companies Eligible for Reduced Disclosure
By Nicole Brookshire, Kenneth Guernsey, Chadwick Mills, Cydney Posner, Brent Siler & Nancy Wojtas, Cooley LLP
On August 17, 2018, the SEC adopted final amendments relating to an ambitious housekeeping effort, “Disclosure Update and Simplification,” a component of the SEC's disclosure effectiveness project. The final amendments address certain disclosure requirements that have become redundant, duplicative, overlapping, outdated or superseded, in light of other SEC disclosure requirements, US GAAP or “changes in the information environment.” This “demonstration version” of the final amendments provides a blacklined version displaying the changes. The final rules become effective 30 days after publication in the Federal Register, and the staff has indicated that it will review the impact of the amendments within five years thereafter.
The final amendments eliminate entirely a number of provisions that are completely duplicative, as well as a variety of references to obsolete terms such as “pooling-of-interests accounting” and “extraordinary items.” In another nod to modernity, the SEC removed the requirement to identify the SEC’s Public Reference Room and disclose its physical location and phone number; instead, the SEC will retain the requirement to disclose the SEC’s internet address and require all issuers to disclose their internet addresses if they have one. SEC disclosure requirements that overlap with GAAP, IFRS or other SEC disclosure requirements have, in some instances, been deleted and, in other instances, where the requirement involved incremental material information, been integrated into other requirements. In some cases where the disclosure requirements overlap with GAAP but require material incremental information, the SEC retained the requirement, but referred the items to FASB for potential incorporation into GAAP in the future.
For the most part, the changes are not particularly earth-shaking. However, where the amendments result in relocation of disclosure into the financial statements, the effect can be burdensome in that it subjects the new disclosure to audit or interim review and audit of internal control over financial reporting, which could create potential verification and auditability issues. In addition, XBRL tagging requirements apply to information in the financial statements. Moreover, because the safe harbor for forward-looking information under the Private Securities Litigation Reform Act of 1995 (PSLRA) does not apply to financial statements, potential liability concerns are introduced. In this regard, relocation of disclosure into the financial statements, together with the absence of the PSLRA safe harbor protection, may make issuers more wary about supplementing required disclosures in the financial statements with forward-looking information. However, the SEC noted that it did not adopt any requirements to disclose forward-looking information in the financial statements and further observed that issuers retain the option of providing forward-looking information outside of the financial statements (and, in some cases, are required to provide that information). Of course, relocating disclosures outside the financial statements will have the opposite effect, no longer subjecting the information to requirements for audit, review or XBRL, and providing the potential for PSLRA protection. Other changes may simply affect the relative prominence of the disclosure or impose or remove a bright-line disclosure threshold.
SEC Approves Amendments to Disclosure Rules for Municipal Securities
By Edward B. Whittemore, Weil, Murtha Cullina LLP
On August 20, 2018, the SEC approved amendments to Exchange Act Rule 15c2-12 – first proposed in March 2017 – which are intended to better inform investors about the current financial condition of state and local issuers of municipal securities, thereby promoting more informed investment decisions when investors trade in the secondary market. The amendments are focused on issuers’ material "direct placements," i.e., direct bond or direct loan financings conducted by municipal issuers with increasing frequency during the past decade as an alternative to traditional public offerings.
Specifically, the amendments add two new triggering events that require issuers to make public disclosure under the Rule within ten business days:
- Any incurrence of a financial obligation of the issuer or obligated person, if material, or agreement to covenants, events of default, remedies, priority rights, or other similar terms of a financial obligation of the issuer or obligated person, any of which affect security holders, if material; and
- Any default, event of acceleration, termination event, modification of terms, or other similar events under the terms of the financial obligation of the issuer or obligated person, any of which reflect financial difficulties.
Under the amendments, the term "financial obligation" means (i) any debt obligation (including a lease arrangement that operates as a vehicle to borrow money); (ii) any derivative instrument entered into in connection with, or pledged as security or a source of payment for, an existing or planned debt obligation; or (iii) any guarantee of (i) or (ii). The term "financial obligation" does not include municipal securities as to which a final official statement has been provided to the Municipal Securities Rulemaking Board (MSRB) consistent with Rule 15c2-12.
The SEC decision to amend Rule 15c2-12, designed to ensure the public availability of certain disclosures about municipal securities, means that additional information about bond issuers will be available on the MSRB’s Electronic Municipal Market Access (EMMA®) website, which has for years provided public access to municipal bond trade price, official statement and other disclosure and related information. The amendments will impact only those issuers whose continuing disclosure agreements are entered into in connection with offerings occurring on or after the compliance date for the amendments – which date will be 180 days after publication of the final rule in the Federal Register.
The Tesla Tweet That Triggered a Billion-Dollar Gain (and, Possibly, an SEC Investigation)
By Elaine Lee, Pillsbury Winthrop Shaw Pittman LLP
Recently, Elon Musk tweeted from his personal handle, “Am considering taking Tesla private at $420. Funding secured.” These words drove Tesla’s share prices up by 10% before NASDAQ halted trading, increasing Musk’s estimated net worth by $1.4 billion dollars.
Since then, there has been a lot of speculation about Musk’s tweet, including about whether it violated SEC rules. News outlets reported that the SEC has contacted Tesla to inquire as to the accuracy of the tweet, a move that could indicate the start of a more formal investigation.
While unorthodox, there may be nothing inherently wrong with Musk using Twitter to announce important news such as plans to take the company private. Since 2008, the SEC has viewed “websites” as an acceptable way of communicating with investors if investors know that they can get company information from a website and access is not restricted. In 2013, the SEC confirmed that social media, specifically, can be an appropriate way for companies to communicate information to investors, as long as the communication follows the Regulation Fair Disclosure rules. The 2013 report followed an investigation into a personal Facebook post by Netflix CEO Reed Hastings stating that Netflix’s monthly online viewing had exceeded one billion hours. Netflix had never informed investors that it would be using the CEO’s personal Facebook page for communicating investor information, and the information Hastings posted was not reported through a press release or form filing. While the SEC did not pursue action against Netflix or its CEO, it noted that disclosure of material, nonpublic information on a personal social media site of an individual corporate officer, without advance notice to investors that the site would be used for that purpose, was “unlikely” to qualify as an acceptable method of disclosure under securities laws.
That was in 2013. Today, social media is more than just a “website”; it is the source of official presidential announcements. Today, Twitter is arguably a more public way of making investor announcements than press releases or SEC filings. Musk, with his 22.3 million Twitter followers, could well argue that his tweet announcing a possible takeover of his company complied with SEC guidance and fair disclosure rules.
Beyond the form of Musk’s tweet, there’s also speculation that its content violated SEC rules. For instance, the Securities Exchange Act prohibits anyone from making false statements to drive up share prices. The Act also prohibits publicly traded companies from announcing plans to buy or sell securities if executives do not have the intent to go through with the offer, are trying to manipulate the stock price, or do not have the means to go through with the sale or purchase. Even if the tweet is technically true, omitting information material to investors could make the statement misleading and possibly violate SEC rules. Putting aside the medium that Musk used, the brevity of his statement raises the issue of whether he fully described a possibly game-changing transaction for his company. For example, who is the funding source and are they legitimate? Does Musk have the necessary commitments in hand? What are the specific covenants involved? Without some key information, the investors are left guessing and cannot fully evaluate the transaction. The 53-character tweet lends itself to a wide range of interpretation: what it actually says about the future of Tesla is still to be determined. What its impact on Tesla and Musk personally is also still to be determined.
Almost a week after his initial tweet, Musk seemed to answer at least some of these questions. Via a blog post titled “Update on Taking Tesla Private,” Musk explained that he has been in talks with Saudi Arabia’s sovereign wealth fund to finance a possible deal. Soon thereafter, Musk reportedly advised the Tesla board of directors that, upon further consideration, he had withdrawn his “going-private” proposal. Whether these developments are enough to placate the SEC will be seen. All in all though, quite the hullabaloo for a little tweet.
Private Equity and Venture Capital
Investors’ Coordinated Investment Strategy May Create Controller Liability
By Lisa R. Stark and Samira F. Torshizi, K&L Gates LLP
In In re Hansen Medical, Inc. Stockholders Litigation, C.A. No. 12316-VCMR (Del. Ch. June 18, 2018), the Delaware Court of Chancery found that plaintiffs had stated a reasonably conceivable claim that the acquisition of Hansen Medical, Inc. (Hansen), by Auris Surgical Robotics, Inc. (Auris) should be reviewed under the entire fairness standard of review because the transaction involved a controlling stockholder group which extracted benefits from the transaction not shared with the minority. The court denied motions to dismiss filed by the alleged control group and Hansen’s directors and officers.
According to the plaintiffs, the alleged control group, consisted of two investors and their affiliates, who collectively held a controlling interest in Hansen, had a twenty-one year history of coordinating their investment strategy in at least seven different companies, and were given the unique opportunity to rollover their stock in Hansen for preferred stock in Auris at the expense of Hansen’s minority stockholders. In determining that it was reasonably conceivable that a control group existed, the court considered, in addition to the investors’ alleged investment history and the rollover opportunity, the voting agreement, merger agreement, and stock purchase agreement executed by the investors (to the exclusion of Hansen’s other stockholders) in connection with the merger.
Next, the court held that plaintiffs stated a reasonably conceivable claim that the entire fairness standard applied to its review of the claims asserted against the investors. As a general matter, transactions involving controllers that receive a “non-ratable” benefit (i.e. a benefit not shared with other stockholders) are subject to entire fairness review. Here, plaintiffs claimed that the investors were given the opportunity to “rollover” their Hansen stock into Auris preferred stock, a benefit not provided to Hansen’s minority stockholders. Plaintiffs also alleged that the minority stockholders received only cash in exchange for their shares at an unfairly low price. Because the investors received a “unique” benefit to the exclusion of Hansen’s other stockholders, the court found it reasonably conceivable that the merger was subject to entire fairness review. Further, the court held, based on plaintiffs’ alleged facts, it was reasonably conceivable that the investors could be held liable for breaching their duty of loyalty.