Corporate & Financial Weekly Digest : Corporate Finance Lawyers & Attorneys for Legal Developments in Business & Financial Services

The Dodd-Frank Wall Street Reform and Consumer Protection Act added Section 21F to the Securities Exchange Act of 1934. Section 21F mandates that the Securities and Exchange Commission, pursuant to regulations prescribed by the SEC, pay awards to eligible whistleblowers who voluntarily provide the Commission with “original information” about a violation of federal securities laws that leads to the successful enforcement of a “covered judicial or administrative action.” The Dodd-Frank Act mandated awards range between 10% and 30% of monetary sanctions imposed, where such sanctions exceed $1 million. The SEC intends to propose whistleblower rules at its open meeting next Wednesday, November 3.

At a recent conference organized by the National Association of Corporate Directors, SEC Chairman Mary Shapiro, responding to concerns voiced that the Dodd-Frank whistleblower program would give employees at public companies very strong incentives to bypass corporate whistleblower programs and report alleged violations directly to the SEC, stated, “It is not our desire in any way, shape, or form to undermine the processes that great public companies have built in to ensure that they handle whistleblowers appropriately. We don’t want to undermine what we view as a critically important component of regulation, and that is the corporate effort to ensure that whistleblowers are heard and their information is acted upon reasonably, and problems are fixed early on.” Whatever rules are proposed by the SEC, they will need to address the balance between preserving corporate whistleblower programs and implementing the Dodd-Frank mandate.

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Co-authored by Palash Pandya

The Financial Industry Regulatory Authority recently issued Regulatory Notice 10-52, which states that any free-writing prospectus (FWP) distributed by a broker-dealer in a manner reasonably designed to lead to a “broad unrestricted dissemination” as described in Rule 433(d)(1)(ii) of the Securities Act of 1933, is subject to the provisions of NASD Rules 2210 and 2211. FINRA’s prior interpretation in 2006 had excluded such FWPs from the provisions of NASD Rules 2210 and 2211.

NASD Rules 2210 and 2211 establish standards for the content of communications with the public by broker-dealers and include principal review and filing requirements with FINRA. NASD Rule 2210(b)(1) requires a registered principal of the broker-dealer to review and approve each advertisement and item of sales literature before it is distributed. NASD Rule 2210(c)(2) requires that firms file advertisements and sales literature regarding securities of certain entities, such as registered investment companies and public direct participation programs, with FINRA within 10 business days of first use.

FINRA states that it is following guidance provided by the Securities and Exchange Commission as to the scope of the term “broad unrestricted dissemination.” The SEC has noted that examples of broad unrestricted dissemination of an FWP by a broker-dealer would include posting an FWP on an unrestricted website or releasing it to the media. A posting of an FWP to a restricted website or an FWP sent directly to the broker-dealer’s customers, regardless of the number of customers, does not constitute a broad unrestricted dissemination.

FINRA notes that if an FWP is distributed by a broker-dealer in a manner that is not reasonably designed to lead to its broad unrestricted dissemination, the exemptions from the provisions of NASD Rules 2210 and 2211 will continue to apply.

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On October 27, the Financial Accounting Standards Board (FASB) announced that it was delaying the effective date of its July 2010 exposure draft, Contingencies (Topic 450): Disclosure of Certain Loss Contingencies. The exposure draft had proposed that public entities would begin providing enhanced loss contingency disclosures in financial statements for fiscal years ending after December 15, 2010. The FASB will announce an effective date after its redeliberations based on the comments that it received.

Click here to read the FASB announcement and here to read the Exposure Draft.

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The Financial Industry Regulatory Authority is requesting comment on an amendment to a proposed FINRA rule regarding customer confirmations. New FINRA Rule 2232 (Customer Confirmations) would replace the current National Association of Securities Dealers (NASD) and New York Stock Exchange (NYSE) rules, which generally govern disclosures made in connection with customer trades and the settlement thereof. The amendment to Rule 2232, which rule was originally filed by FINRA on August 24, 2009, limits the application of the settlement date provisions in the rule to “transactions in traditional equity securities,” thereby excluding certain mutual fund and variable annuity transactions. FINRA intends the new rule, as amended, to be more straightforward and to streamline and combine the basic customer confirmation requirements currently set forth in NASD and NYSE rules. Comments are due by November 17.

Click here to read the SEC release regarding filing of Amendment No. 1 to FINRA Proposed Rule 2232, filed on September 16.
Click here to read the SEC release regarding filing of FINRA Proposed Rule 2232, filed on August 24, 2009.

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Co-authored by Kenneth M. Rosenzweig and Christian B. Hennion

The Commodity Futures Trading Commission has issued five rule proposals and an advance notice of proposed rulemaking, five of which relate to rulemakings required by the Dodd-Frank Wall Street Reform and Consumer Protection Act. The sixth is not mandated by the Dodd-Frank Act, and relates to permitted investments of customer funds and funds held in foreign futures accounts.

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Co-authored by Kenneth M. Rosenzweig and Christian B. Hennion

The U.S. Treasury Department has requested public comment on whether foreign exchange swaps and forwards should be exempted from the definition of a “swap” under the Commodity Exchange Act (CEA). Pursuant to the Dodd-Frank Wall Street Reform and Consumer Protection Act, the Secretary of the Treasury is permitted to make a determination that foreign exchange swaps, foreign exchange forwards, or both, should be excluded from the CEA’s “swap” definition, based on consideration of various enumerated factors.

In its request for comment, the Treasury has solicited comment on several specific questions, including the primary risks of, and risk management techniques in use in, the foreign exchange swaps and forward markets, and how mandatory clearing and exchange trading might affect market liquidity in the U.S. dollar, as well as U.S. dealers and end-users. The comment period expires on November 29.

A copy of the Treasury’s request for comments is available here.

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Co-authored by Kenneth M. Rosenzweig and Christian B. Hennion

In response to certain amendments made by the Dodd-Frank Wall Street Reform and Consumer Protection Act relating to swaps in “agricultural commodities,” the Commodity Futures Trading Commission has proposed to define “agricultural commodities” for the first time.

The CFTC’s proposed definition would include all of the “enumerated commodities” listed in Section 1a of the Commodity Exchange Act (CEA), as well as:

• commodities derived from living organisms that are “generally fungible” and used primarily for human food, shelter, animal feed or natural fiber;
• tobacco, products of horticulture, and such other commodities used or consumed by animals or humans and designated by the CFTC as agricultural commodities; and
• commodity-based contracts (e.g., basis swaps and qualifying index contracts) based wholly or principally on a single underlying agricultural commodity.

The CFTC has requested comments on a number of aspects of the definition, including its exclusion of biofuels, and its potential impact on swaps currently transacted pursuant to CEA Sections 2(g) and 2(h). The comment period expires on November 26.

A copy of the CFTC release is available here.

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Co-authored by Jonathan Rotenberg

The U.S. Court of Appeals for the Second Circuit affirmed the U.S. Bankruptcy Court for the Southern District of New York’s dismissal of a complaint brought by Rosenman Family, LLC, an investor with Bernard L. Madoff Investment Securities LLC (BLMIS), against the trustee of BLMIS’s estate. The complaint alleged that Rosenman was entitled to a return of $10 million it wired to BLMIS, because, Rosenman argued, the funds were stolen or embezzled by BLMIS and thus never became BLMIS’s property and/or part of BLMIS’s bankruptcy estate.

The bankruptcy court dismissed Rosenman’s complaint on the ground that Rosenman was a “customer” under the Securities Investor Protection Act (SIPA). The court found that Rosenman had deposited cash with BLMIS for the purpose of purchasing securities, thereby invoking SIPA. The bankruptcy court concluded that Rosenman’s investment was part of the estate.

The Second Circuit affirmed the bankruptcy court’s finding that the funds were estate property, but rejected as premature its conclusion that Rosenman was a “customer” under SIPA. The Second Circuit reasoned that Rosenman’s phone call with Madoff expressing interest in investing in the BLMIS fund, Rosenman’s wiring of the funds in accordance with that phone call, the confirmation of BLMIS’s purported purchase of securities for Rosenman’s account, and the absence of any objection to that purported trade by Rosenman all demonstrated that Rosenman willingly transferred its money to BLMIS in contemplation of engaging in ongoing business dealings with BLMIS, thereby invoking SIPA, and thus the funds became part of the estate. (Rosenman Family, LLC v. Picard, No. 09-5296-bk, 2010 WL 3911370 (2d Cir. Oct. 7, 2010))

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Co-authored by Jonathan Rotenberg

Plaintiffs, Puerto Rico-based financial institutions offering commercial banking services, sought a preliminary injunction prohibiting defendant, a Puerto Rico-based nonprofit banking institution that offered services similar to plaintiffs’, from using its current mark and dress.

Plaintiffs used the term “Oriental” in connection with their businesses, services and products for decades; registered various versions of the term with the Puerto Rico Department of State Trademark Registry; and in 2010 applied to both that office and the U.S. Patent and Trademark Office to register “Oriental” for exclusive use in financial and banking services. Plaintiffs also prominently used the color orange in their advertisements.

Defendant had used the word “Oriental” in its name for a number of years, but in 2009 began using predominantly orange in its advertisements, on its website and on its storefront signs. The term “Oriental” was also made more prominent in defendant’s logo.

The court determined that evidence existed that defendant’s new logo and advertising campaign caused customer confusion and a loss of business, and entered a preliminary injunction against defendant. The court found that plaintiffs suffered an ongoing injury that could not be compensated, and that defendant unfairly benefited from plaintiffs’ advertising efforts. Given the consumer confusion, the court concluded that an injunction preventing defendant from using its current mark and dress was necessary to prevent further harm to plaintiffs and to the public. (Oriental Financial Group, Inc. v. Cooperativa De Ahorro Y Credito Oriental, No. 10-1444, 2010 WL 4117236 (D.P.R. Oct. 20, 2010))

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Co-authored by Aimee S. Lin

The U.S. Court of Appeals for the Second Circuit is considering the district court’s decision in Fishoff v. Coty Inc., which held that the Coty Board’s broad discretion under its Long Term Incentive Compensation Plan (LTIP) did not include attributing two different fair market values to its stock for the same day.

Michael Fishoff, the former Chief Financial Officer of Coty Inc., a privately held corporation, was a participant in the company’s LTIP. Upon exercise, the LTIP entitles a participant to a cash payment in an amount equal to the difference between the fair market value of Coty shares underlying the participant’s options and the exercise price.

On November 30, 2008, when Mr. Fishoff exercised his options, the most recent valuation of Coty’s stock, in September 2008, had been $58 per share.

On December 5, 2008, the Coty Board met and decided that in light of deteriorating market conditions, the next valuation of its options needed to be conducted as soon as possible. An independent investment bank valued the Coty shares at $31 per share as of November 30, 2008. On December 11, 2008, Coty terminated Mr. Fishoff’s employment without cause. Coty took the position that the $31 value applied to Mr. Fishoff’s option shares even though the shares had been valued at $58 when he exercised. The difference between the $58 valuation and the $31 valuation of his 200,000 options was $7,612,000.

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Co-authored by Gary W. Howell and Michael R. Durnwald

On October 20, the U.S. Department of Labor (DOL) issued final regulations that will require certain Employee Retirement Income Security Act retirement plan sponsors to disclose to plan participants information about plan fees and expenses, as well as other information about available investment alternatives. The regulations go into effect for plan years beginning on or after November 1, 2011.

Compliance with the regulations’ disclosure requirements will be required for plan sponsors of individual account retirement plans which allow for participant-directed investment of plan accounts, a typical feature for 401(k) and profit-sharing plans. Failure by a plan sponsor to provide the information required by the regulations will allow a plan participant or beneficiary to allege a breach of fiduciary duty—possibly making the plan sponsor liable for losses incurred by plan participants.

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On October 27, the UK Government announced that it will implement pension reforms as suggested in the recently published report of an independent review team commissioned by the previous Labour government. Specifically, the team reviewed the practicalities of automatic enrollment in workplace pension schemes.

A new Pensions Act will introduce three key reforms to workplace pensions:
 

1. new legal duties requiring employers to automatically enroll eligible employees into a qualifying pension scheme;
2. a compliance regime enforced by The Pensions Regulator; and
3. the establishment of a new low-cost pension scheme, the National Employee Savings Trust (NEST). NEST will be available to all employers.

The reforms will apply to all employers, including those in small companies. Automatic enrollment will be phased, starting in October 2012 with the largest companies and continuing through 2016. By the end of this phasing period, all employers must enroll employees earning more than £7,500 (approximately $12,000) in a pension. Employer contributions will also be required for employees earning more than £5,700 (approximately $9,100). During the initial period between 2012 and 2016, employees and employers must contribute a collective minimum of 2% of earnings, with a minimum of 1% coming from the employer. From October 2012, once the reforms have been fully implemented, the minimum contribution will rise to 8% of earnings, with a minimum of 3% coming from the employer.

Employers will have the option of a three-month waiting period before automatic enrollment, to avoid having to enroll temporary workers.

To read more, click here.

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On October 18, the Securities and Exchange Commission proposed new rules under Section 14A of the Securities Exchange Act of 1934, which was enacted by Section 951 of the Dodd-Frank Wall Street Reform and Consumer Protection Act. Section 14A requires public companies to conduct separate non-binding shareholder advisory votes to approve the named executive officer (NEO) compensation (say-on-pay) and the frequency of the say-on-pay vote (say-on-when). Section 14A also requires expanded, tabular format disclosure of executive compensation in connection with mergers or similar transactions (golden parachutes) and a related separate advisory vote on golden parachutes in merger proxy statements. These requirements are effective for annual or special shareholder meetings occurring on or after January 21, 2011.

Inclusion of the say-on-pay or say-on-when proposal does not require the filing of a preliminary proxy statement. The proposed rules also require disclosure in Compensation Discussion and Analysis (CD&A) whether, and if so, how companies have considered the results of previous say-on-pay votes. The proposed rules require that shareholders shall be given a separate say-on-when vote to determine the frequency of the say-on-pay vote, i.e., whether it shall be as often as every year, every other year or once every three years. The separate say-on-when vote must occur at least once every six years. Because companies that have received Troubled Asset Relief Program (TARP) funds are required to have annual say-on-pay votes, these companies are exempt from the requirement to include a say-on-when proposal until the company is no longer subject to the TARP restrictions. While the proposed rules require smaller reporting companies to include a say-on-pay vote, smaller reporting companies can continue to follow the scaled compensation disclosure requirements and are not required to include CD&A.

The proposed rules also require institutional investment managers who are required to file Form 13F (generally those who manage publicly traded equity securities having an aggregate fair market value of at least $100 million) to file Form N-PX, Annual Report of Proxy Voting Record, by August 31 of each year to report the manager’s votes relating to the say-on-pay, say-on-when and golden parachute matters described above. Form N-PX, which is currently required to be filed by registered management investment companies, is being amended for use by institutional investment managers as well.

The comment period for the proposed rules closes on November 18.

Click here and here to read the text of the proposed rules.

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Co-authored by Louis Froelich

The Financial Industry Regulatory Authority has issued a Regulatory Notice reminding firms of their sales practice obligations regarding securities that offer exposure to the commodities markets. FINRA cautions that firms must ensure that communications with the public about these securities are fair and balanced, that recommendations to customers are suitable and that firm registered representatives understand and can inform customers about these securities before recommending them. To meet these obligations, firms must train registered personnel about the characteristics, risks and rewards of these products before they allow their registered persons to sell the products to investors. Firms also must have adequate written supervisory procedures and controls in place reasonably designed to ensure that commodity-futures linked securities sales comply with applicable federal securities laws and FINRA rules.

Click here to read FINRA Regulatory Notice 10-51.

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Co-authored by Louis Froelich

The content standards, principal review requirements and applicable filing requirements contained in NASD Rules 2210 and 2211 now apply to free writing prospectuses distributed by broker-dealers in a manner reasonably designed to lead to their broad unrestricted dissemination. Through FINRA Regulatory Notice 10-52, the Financial Industry Regulatory Authority has withdrawn previous interpretive guidance excluding such free writing prospectuses from these NASD rules, which establish standards for the content of broker-dealer communications with the public. According to FINRA, a free writing prospectus distributed by a broker-dealer in a manner reasonably designed to lead to its broad unrestricted dissemination presents the same investor protection concerns as communications regulated by these rules, which are designed to ensure that communications with the public by broker-dealers are fair, balanced and not misleading.

Click here to read FINRA Regulatory Notice 10-52.

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Co-authored by Maxwell Li

The Securities and Exchange Commission filed a complaint on October 19 in the U.S. District Court for the Northern District of Georgia against hedge fund portfolio managers Paul Mannion, Jr. and Andrew Reckles and their investment advisory entities, PEF Advisors LLC and PEF Advisors Ltd., for defrauding investors in the Palisades Master Fund, L.P. According to the complaint, Mr. Mannion and Mr. Reckles knowingly or recklessly overvalued Fund investments that they placed in a “side pocket” and charged excessive management fees to the Fund while simultaneously selling millions of dollars worth of the same securities from their personal accounts. The complaint also alleges that the defendants stole and exercised warrants belonging to the Fund, misappropriated investor cash and securities on other occasions to make personal investments, and made material misrepresentations regarding their short trading positions in order to participate in a PIPE transaction. The SEC is charging defendants with violations of Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5 thereunder, and Sections 206(1) and 206(2) of the Investment Advisers Act of 1940, and is seeking injunctive relief, disgorgement of profits, prejudgment interest and financial penalties.

To read the SEC’s press release, click here.
To read the SEC’s complaint, click here.

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Co-authored by Joshua A. Penner

The Commodity Futures Trading Commission has announced that it will be holding a public meeting on Tuesday, October 26 at 9:30 a.m. Eastern to consider the issuance of several proposed rulemakings. Proposed rulemakings under the Dodd-Frank Wall Street Reform and Consumer Protection Act that will be discussed at the meeting include:

• prohibition of market manipulation and disruptive trade practices;
• provisions common to registered entities;
• removing any reference to or reliance on credit ratings in CFTC regulations and proposing alternatives; and
• process of review of swaps for mandatory clearing.

In addition, the CFTC will consider one proposed rulemaking not arising out of the Dodd-Frank Act involving CFTC Rule 1.25, the investment of customer funds and funds held in an account for foreign futures and foreign options transactions.

The meeting will be webcast on the Internet, and the audio feed of the meeting will be available on a listen-only conference call.

The webcast of the meeting can be accessed at www.cftc.gov. The listen-only conference call can be dialed in to at 1-866-844-9416, with a pass code of 28228.

The Federal Register releases concerning the proposed rulemakings to be discussed can be accessed here.

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Co-authored by Joshua A. Penner

The Commodity Futures Trading Commission has introduced an online form through which comments to Federal Register releases and industry filings may be submitted. The online form for submitting comments can be accessed here.

Comments submitted will become part of the public record and will be published on the CFTC’s website without prior review and without the removal of any personally identifying or other sensitive information. Therefore, commenters should not submit information that they wish to remain confidential or not be disclosed to the public.

The CFTC press release regarding the new online comment form can be found here.

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Co-authored by Seth M. Messner

The Securities and Exchange Commission has proposed Rule 202(a)(11)(G)-1 under the Investment Advisers Act of 1940, as amended (Advisers Act), to define “family offices” that would be excluded from the definition of “investment adviser.” The proposed rule was mandated in Section 409 of the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (the Act).

Family offices are established by wealthy families to manage their wealth, plan for their families’ financial future and provide other services to family members. Absent an exclusion, family offices would typically fall under the definition of investment adviser under the Advisers Act.

Many family offices have previously relied on the exemption from registration under the Advisers Act in Section 203(b)(3) for an investment adviser who during the course of the preceding 12 months has had fewer than 15 clients and who neither holds itself out generally to the public as an investment adviser nor acts as an investment adviser to any investment company or business development company. The Act eliminated the exemption contained in Section 203(b)(3), effective July 21, 2011.

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Co-authored by Jessica M. Garrett

The U.S. Bankruptcy Court for the District of Massachusetts recently denied a motion for summary judgment on the issue of damages by investors in Access Cardiosystems, Inc. against one of the defendants, Randall Fincke. The investors had asserted claims against Mr. Fincke under the Massachusetts version of the Uniform Securities Act, Section 410(a)(2) of the Massachusetts General Laws, which creates “civil liability for sales [of securities] by means of fraud or misrepresentation.” Section 410(a)(2) is almost identical to Section 12(2) of the Securities Act of 1933 and, in reaching its decision, the court relied upon both federal case law as well as case law from other states interpreting the Uniform Securities Act.

In 2009, the court ruled that Mr. Fincke made a material misstatement in a business plan when he stated that Access had been advised by its patent counsel that its product did not infringe on any patents known to counsel without having sought or received any such advice. Following this decision on liability, four of Access’s individual investors moved for summary judgment on the issue of damages, seeking to rescind all of their investment transactions and recover their total investment in the company.

The court found that rescission was not an available remedy because the investors no longer owned the securities and therefore could not tender those securities. However, as the court pointed out, the practical effect of its ruling that the investors could not rescind the transaction was minimal, since the calculation of damages would be based on the amount that would have been “recoverable upon a tender” of the securities. The court held that summary judgment on the issue of damages was inappropriate because there were genuine issues of disputed fact as to which transactions, if any, involved the sale of securities “by means of” the misstatements contained in the business plan. In reaching this conclusion, the court explained that although Section 410(a)(2) does not require a plaintiff to prove reliance or loss causation, the investor must nevertheless prove that each sale of securities for which it seeks damages was made in connection with the misrepresentation. (In re Access Cardiosystems, Inc., 2010 WL 4053614 (Bkrtcy. D. Mass. Oct. 14, 2010))

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Co-authored by Jessica M. Garrett

The U.S. District Court for the Southern District of New York recently granted defendants’ motions to dismiss a consolidated class action asserting claims for securities fraud in violation of Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5 brought by shareholders of Celestica, Inc., a Canadian electronics corporation, against the company and its former officers, as well as against Onex Corporation, the largest controlling shareholder of Celestica, and Onex’s CEO (together, the Onex defendants) based on, among other things, the plaintiffs’ failure to plead fraud with the specificity required by Rule 9(b) of the Federal Rules of Civil Procedure.

Plaintiffs alleged that defendants disseminated materially false and misleading statements concerning Celestica’s earnings, profitability and financial future during conference calls and in publicly filed financial documents, thereby artificially inflating Celestica’s stock price to the ultimate detriment of its shareholders. In asserting the allegations of fraud against the Onex defendants, plaintiffs attempted to rely upon the “group pleading doctrine” to avoid application of Rule 9(b)’s requirement that a plaintiff identify the speaker of a purportedly fraudulent statement. The group pleading doctrine allows plaintiffs to attribute misleading statements to the group of defendants who were responsible for creating, reviewing or approving the purportedly false statements prior to their dissemination.

In support of their argument for applying the group pleading doctrine, plaintiffs asserted that the Onex CEO’s regular attendance at executive committee meetings and the Onex defendants’ significant holdings of Celestica securities enabled the Onex defendants to effectively control the company. As a result, the plaintiffs argued that the Onex defendants were sufficiently involved in the everyday business of the company to assume liability for any corporate misstatements. However, the court found these allegations did not establish that the Onex defendants had a “direct day-to-day involvement in Celestica’s business affairs and operations necessary for attribution” of the statements to them. Thus, the court dismissed the complaint because the plaintiffs failed to allege the direct connection between the Onex defendants and the alleged misstatements necessary for application of the group pleading doctrine. (In re Celestica Inc. Securities Litigation, 1:07-cv-00312 (S.D.N.Y. October 14, 2010))

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On October 20, the Financial Services and Markets Tribunal issued its decision in the matter of Andre Jean Scerri and the UK Financial Services Authority (FSA). Mr. Scerri’s fine was increased from £46,062.50 to £66,062.50 (roughly $104,276).

Mr. Scerri was a private investor in Amerisur Resources plc. On May 23, 2007, he was given inside information by another private investor that an order had been placed for the following day at discounted prices (the Placing). Mr. Scerri immediately cancelled his order to increase his position in Amerisur. After Amerisur’s broker formally made him an insider in the Placing, Mr. Scerri sold his remaining positions before the public announcements. He then rebuilt the majority of his position by buying back at discounted prices. The disgorgement represents the difference between the two prices.

The FSA initially decided not to impose the penalty of £20,000 (roughly $31,500) due to Mr. Scerri’s financial hardship. However, the Tribunal found that his evidence had been incomplete and misleading and that his hardship had been self-induced (due to making hundreds of unsuccessful trades after being notified by the FSA of their proposed penalty).

To read more, click here.

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On October 20, the UK Financial Services Authority (FSA) published its Policy Statement (10/16) on the Client Assets Sourcebook (Enhancements) Instrument 2010.

The policy statement is relevant to regulated investment firms who hold the relevant client assets and money permissions, as well as their senior management and staff with client money and/or asset responsibility, their trade associations and firms who intend to hold or control client money.

Despite mixed feedback, the FSA broadly intends to proceed with proposals which were contained in CP10/9 Enhancing the Client Assets Sourcebook (CASS) (issued in March 2010). The FSA proposed:

• disclosure annexes for prime brokerage agreements;
• daily reports to prime brokerage clients;
• reduced maximum placements of client money with banks in the same corporate group as the relevant broker;
• prohibiting general liens in custodial agreements; 
• establishing a CASS operational oversight controlled function; and
• bringing back the requirement to produce client money and asset returns.

The rules detailed in the policy statement will come into force in 2011.

The full policy statement can be found here.

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On October 21, the UK Government published draft legislation on the bank levy. The draft details how the levy will work prior to implementation of final legislation (due to be published by the end of 2010).

The Government’s proposals are based on the International Monetary Fund’s Report to the G20, “A Fair and Substantial Contribution by the Financial Sector,” which suggested a broad balance sheet charge. It is hoped that the bank levy will encourage less risky funding and will aid the wider agenda to improve regulatory standards and enhance financial stability.

For more information on the draft legislation, click here.

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On October 19, the Economic and Financial Affairs Council of the European Union (ECOFIN) published a press release announcing that agreement had been reached on the Alternative Investment Fund Managers Directive (AIFMD). The Council hopes for a final text of the AIFMD to be before the European Parliament by November 10 (which would give an implementation deadline of early 2013 for member states).

The ECOFIN proposal appears to be based on the compromise proposal released on October 15 by the Belgian presidency of the EU Council (the Proposal). The Proposal sets out a dual system allowing non-EU managers to apply for a passport from 2015, while EU managers would be able to obtain a passport from implementation. The existing private placement regime would be replaced by this system in 2018 if the passport for non-EU managers was successful.

Under the Proposal, funds managed by EU managers must have depositaries, which must be liable to the fund, or to investors, for the loss of any financial instruments which they hold for the fund. This liability remains even where responsibility for custody has been delegated to a third party.

For more information, click here.
Click here to read an October 20 Katten Client Advisory on the AIFMD.

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On October 5, the Securities and Exchange Commission approved proposed amendments to the Fixed Income Clearing Corporation’s (FICC) Government Securities Division (GSD) rules relating to close out netting. FICC’s proposal adds a provision to the rules of the GSD to make it clear that close out netting would apply to obligations between FICC and its members in the event that FICC becomes insolvent or defaults in its obligations to its members.

The proposed rule change was prompted by requests from FICC dealer-members for more clarity with respect to the manner in which close out netting would apply to the obligations of FICC and its members in the event of an FICC insolvency or default. Under the rules that apply to certain FICC members, FICC’s close out netting rules may permit members to calculate their capital requirements based on their net credit exposure to FICC.

Click here to read the language of FICC’s proposed rule.
Click here to read the SEC’s order approving FICC’s proposed rule.

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Section 766 of the Dodd-Frank Wall Street Reform and Consumer Protection Act generally requires security-based swaps that were entered into prior to July 21 and which were still outstanding as of that date (“pre-enactment unexpired security-based swaps”) to be reported. Pursuant to that requirement, the Securities and Exchange Commission adopted an interim final rule (the Rule) in an effort to implement these reporting requirements pending the adoption of final rules relating to the reporting of security-based swaps and associated recordkeeping requirements. In addition, the Rule includes an interpretive note (the Note) which imposes current recordkeeping obligations on the parties to pre-enactment unexpired security-based swaps.

Reporting Obligations

New Rule 13Aa-2T under the Securities Exchange Act of 1934 requires that a counterparty to a pre-enactment unexpired security-based swap transaction submit certain information to a registered security-based swap data repository or to the SEC by the earlier of: (x) the compliance date that will be established by SEC rules, or (y) within 60 days after a security-based swap data repository is registered with the SEC and becomes operational. The information required to be reported includes: (1) a copy of the transaction confirmation in electronic form, if available, or in written form if there is no electronic copy; and (2) if available, the time the transaction was executed. The Rule also requires the parties to pre-enactment unexpired security-based swap transactions to provide the SEC with any information relating to these transactions that the SEC may request.

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The Securities and Exchange Commission recently released its responses to frequently asked questions relating to Rule 201 of Regulation SHO. Rule 201 restricts the price at which short sales may be effected when a stock has experienced significant downward price pressure. In particular, Rule 201 implements (1) a “short sale circuit breaker” for National Market System stocks that once triggered prohibits the execution or display of short sale orders at a price less than or equal to the current national best bid for the remainder of the day and the following day; and (2) a “short sale exempt” marking category, which allows broker-dealers to mark certain sell orders as “short exempt” once the short sale circuit breaker has been triggered. The short sale circuit breaker is triggered by a 10% or more decrease in the price of the security from such security’s closing price at the end of the regular trading hours on the prior trading day. Compliance with Rule 201 is required as of November 10.

The SEC’s responses to the FAQs are available here.

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Co-authored by Vanessa Friedman

The Commodity Futures Trading Commission has announced that it will hold a meeting next week to address proposed rulemakings under the Dodd-Frank Wall Street Reform and Consumer Protection Act regarding: (i) the definition of “agricultural commodity”; (ii) position reports for physical commodity swaps and options on physical commodity swaps; (iii) increasing privacy protections for consumer financial information under the Gramm-Leach-Bliley Act; and (iv) rules concerning business affiliate marketing and discarding consumer information under the Fair Credit Reporting Act.

The meeting will take place at 9:30 a.m. on October 19. Please click here to see the CFTC’s press release for information on attending the meeting in person or online, or listening in via conference call.

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Co-authored by Vanessa Friedman

Two of the proposals approved by the Commodity Futures Trading Commission at its meeting on October 1 and reported in the October 8, 2010 edition of Corporate and Financial Weekly Digest were published for comment in the Federal Register on October 14.

The release requesting comment on the CFTC’s interim final rule requiring the reporting of certain information concerning unexpired swaps entered into prior to the enactment of the Dodd-Frank Wall Street Reform and Consumer Protection Act is available here. The comment period ends November 15.

The release requesting comment on the CFTC’s proposed rules regarding financial resources requirements for derivatives clearing organizations is available here. The comment period ends December 13.

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Co-authored by Vanessa Friedman

The National Futures Association (NFA), after consultation with the Commodity Futures Trading Commission, published additional guidance on the CFTC’s final forex regulations, which are effective October 18. NFA clarified the following:

1. Futures commission merchants (FCMs), retail foreign exchange dealers (RFEDs) and introducing brokers (IBs) are not required under CFTC Regulation 5.5 to provide existing customers with the most recent quarterly customer account information (unless requested by the customer) or required disclosure documents (or to obtain a disclosure document acknowledgment from such customers). Such requests only apply to customers that open accounts on or after October 18.
2. Only the following types of entities may be used to hold assets equal to the total amount owed to U.S. customers for Forex transactions: (a) in the U.S., a domestic regulated bank or trust company, an SEC registered broker-dealer (that is also a Financial Industry Regulatory Authority member) or a CFTC registered FCM (that is also an NFA member), and (b) in a “money center country” (as defined in CFTC Regulation 1.49), a bank or trust company with regulatory capital greater than $1 billion, a foreign equivalent of a broker-dealer or FCM with regulatory capital greater than $100 million or an FCM registered with CFTC and a member of NFA.
3. Any registered FCM, RFED, IB, commodity pool operator or commodity trading advisor must be approved by NFA as a forex firm prior to engaging in retail forex transactions. Any such firm must have at least one principal registered as an associated person (AP) and approved as a forex AP. Two exams are required for any individual who solicits or supervises the solicitation of retail Forex business: the National Commodity Futures Examination (Series 3) and the Retail Off Exchange Forex Examination (Series 34) (though APs, sole proprietors or floor brokers who were registered as such on May 22, 2008 are exempt from taking the Series 34 exam, absent any 2 year or greater gap in their registration since that date).
4. Entities defined in the Commodity Exchange Act §§ 2(c)(2)(B)(ii)(II)(aa), (bb), (ee) and (ff) may solicit retail Forex orders, manage retail Forex accounts or operate a retail Forex pool without registering with the CFTC in the relevant capacity.

The NFA Notice is available here.

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In the midst of a takeover battle by defendant Air Products and Chemicals, Inc. for control of Airgas, Inc., the Court of Chancery of Delaware upheld a bylaw amendment sponsored by Air Products that moved up the date of Airgas’s upcoming 2011 annual shareholder meeting by approximately nine months, thereby potentially shortening the term to be served by members of Airgas’s staggered board.

Air Products launched a proxy contest to acquire control of Airgas’s board of directors after Airgas rejected multiple merger proposals. Prior to the start of the proxy contest, Airgas had in place multiple takeover defenses, including a nine-member staggered board of three equal classes, with one class up for reelection each year at the annual shareholder meeting.

At Airgas’s September 15 annual shareholder meeting, Air Products’ three nominees were elected to the Airgas board of directors, and the Airgas shareholders approved an Air Products sponsored bylaw amendment that moved the date of Airgas’s 2011 annual meeting up from August/September (when it traditionally had been held) to January. The effect of the bylaw amendment is that the Airgas directors up for election in 2011 will not necessarily serve full three-year terms.

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The U.S. District Court for the Second Circuit held that where a plaintiff and his counsel knowingly commenced a securities action in which the only purchase of an actual security occurred 18 years earlier, and failed to disclose that fact in the complaint, Rule 11 sanctions were warranted because the claim was clearly time-barred by the applicable statute of limitations.

Plaintiff John Libaire, Jr. and his attorney alleged in their complaint that, in addition to plaintiff’s purchase of a single share of common stock 18 years earlier, Mr. Libaire’s 2005 payment of annual dues to defendant North Fork Preserve, Inc. also constituted the purchase of a security. According to plaintiff, this later “purchase” established that his securities fraud claims were not time-barred.

Under Second Circuit law, a transaction may be deemed a security where there has been an investment in a common venture that is premised on a reasonable expectation of profits to be derived from the entrepreneurial or management efforts of others. The Second Circuit affirmed the district court’s ruling that the payment of annual membership dues could not satisfy the “reasonable expectation of profits” element.
 

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Co-authored by Christina Grigorian

On October 14, the Federal Deposit Insurance Corporation (FDIC) issued revised guidance on golden parachute payments made to “institution-affiliated parties” (IAPs), such as bank employees, officers and directors, when such institutions are in a “troubled condition” (i.e., such institution is rated a composite “4” or “5” or meets other criteria). Certain golden parachute payments may be made in such circumstances, although application to the FDIC must be made and certain materials must be provided.

In the guidance, the FDIC notes that, in order for an institution to make or agree to make a golden parachute payment when it is in a troubled condition, the applicant institution must demonstrate that: (1) the IAP has not committed any fraudulent act or omission, or breach of trust or fiduciary duty or insider abuse, that has had a material adverse effect on the institution or covered company; (2) that the IAP is not “substantially responsible” for the insolvency or troubled condition of the institution or covered company; and (3) that the IAP has not violated any applicable federal or state banking law that has had or is likely to have a material effect on the institution or covered company.

Importantly, the FDIC has clarified in the guidance the following with respect to such payments or agreements to make such payments: (1) combined applications are permitted in situations where an institution seeks to pay relatively small amounts to lower-level employees with similar responsibilities or to implement a reduction-in-force or reorganization and must terminate numerous employees to cut costs; (2) there is now a de minimis payment amount of $5,000 per individual that will automatically be approved without requiring an official review (although a list of recipients must be retained by the institution); and (3) the FDIC is unlikely to approve golden parachute payments for institutions that are in a precarious financial position unless the institution can demonstrate near-term benefits that outweigh the cost of the payments and the payment is not contrary to the golden parachute restrictions.

For more information, click here.

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Co-authored by David S. Kravitz

On September 29, the Business Roundtable and the U.S. Chamber of Commerce filed a petition for review with the U.S. Court of Appeals for the D.C. Circuit challenging the validity of new Rule 14a-11, the so-called proxy access rule. On the same date, the Business Roundtable and U.S. Chamber of Commerce filed a petition with the Securities and Exchange Commission seeking to stay the implementation of Rule 14a-11 pending resolution of the matter by the Court of Appeals. This rule was adopted in August by the SEC along with an Amendment to Rule 14a-8, and was to become effective on November 15. See the August 27 edition of Corporate and Financial Weekly Digest for a summary of Rules 14a-11 and 14a-8 (i)(8).

On October 4, the SEC granted the requested stay in the implementation of Rule 14a-11. It also stayed the effectiveness of Amended Rule 14a-8, even though not part of the petitioner’s petition, on the basis that it was “intertwined” with Rule 14a-11, and cited a potential for confusion if the amendment to Rule 14a-8 were to become effective while Rule 14a-11 is stayed. While the parties have agreed to seek expedited review, the SEC’s stay of the two rules will remain in effect pending resolution of the matter by the Court of Appeals.

Most legal analysts, as well as a spokesman for the SEC, believe that the matter will not be resolved until some time in the spring of 2011, with the practical result that these rules will not be in effect for most public companies (including those with fiscal years ending December 31) until the 2012 proxy season.

Click here for Business Roundtable’s petition to the Court of Appeals.
Click here for Business Roundtable’s petition to the SEC for a stay.
Click here for the SEC’s order granting stay.

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Co-authored by Natalya S. Zelensky

Financial Industry Regulatory Authority member firms that are futures commission merchants and clear over-the-counter (OTC) derivatives for customers through Chicago Mercantile Exchange Inc. (CME) must soon begin filing a new statement pertaining to such OTC derivatives with FINRA as part of their monthly Financial and Operational Combined Uniform Single (FOCUS) Report. This requirement arises from recent amendments by CME to its financial reporting rules and forms and by National Futures Association to its financial requirement rules. The new statement—the Statement of Sequestration Requirements and Funds in Cleared OTC Derivatives Sequestered Accounts—is due to FINRA beginning with the monthly FOCUS Report that is due on November 23 (covering the October 2010 reporting period).

Click here to read FINRA Regulatory Notice 10-46.

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Co-authored by Natalya S. Zelensky

The Securities and Exchange Commission has approved the Financial Industry Regulatory Authority’s proposed rule change to amend FINRA’s trade reporting and Order Audit Trail System rules. The implementation date for the new rules is November 10. Among other things, the rule change requires members to indicate on trade reports submitted to FINRA if a transaction is “short sale exempt” and, when an order is received or originated, to record the designation of an order as a short sale exempt order if the order may be marked “short exempt” pursuant to SEC Regulation SHO.

Click here to read SEC Release No. 34-63032.
Click here for information on FINRA’s original proposal to reinstitute short exempt marking for trade reporting and OATS in the August 27 edition of Corporate and Financial Weekly Digest.

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Co-authored by Christian B. Hennion

In connection with its ongoing implementation of the Dodd-Frank Wall Street Reform and Consumer Protection Act, the Commodity Futures Trading Commission last Friday voted to propose several rules for publication in the Federal Register. The CFTC proposals include rules relating to the financial resources requirements for derivatives clearing organizations (DCOs) and the mitigation of conflicts of interest by DCOs, designated contract markets (DCMs), and swap execution facilities (SEFs).

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Co-authored by Christian B. Hennion

The National Futures Association (NFA) has announced that recent amendments to NFA Bylaw 1301(b), which sets forth the schedule of dues and assessments for futures commission merchants (FCMs), will take effect on November 1. The amendments, which were submitted to the Commodity Futures Trading Commission on August 30, create an exemption from the NFA assessments charged to FCMs with respect to trades entered on or subject to the rules of a foreign board of trade by their customers. Specifically, the new exemption exempts from the NFA assessment fee the proprietary trading activity of any person who has membership privileges on an NFA member contract market which had an annual transaction volume during the prior calendar year of more than 1 million. The parents, affiliates and subsidiaries of a such a person are counted separately for this purpose.

The NFA Notice to Members announcing the effective date of the amendments, which includes a link to the amendments, is available here.

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Co-authored by Christian B. Hennion

The National Futures Association (NFA) has submitted proposed amendments to its Interpretive Notice entitled “NFA Compliance Rule 2-9: Enhanced Supervisory Requirements” to the Commodity Futures Trading Commission. The Interpretive Notice sets out enhanced supervisory requirements that apply to certain NFA member firms due to the prior association of their associated persons or principals with disciplined firms. Among other things, the amendments provide limited relief to certain firms that are currently subject to enhanced supervisory requirements due to a principal’s prior affiliations; amend the enhanced capital requirements applicable to futures commission merchants, commodity pool operators and commodity trading advisors who are subject to enhanced supervisory requirements; require the inclusion of certain information in the written supervisory procedures of such firms; and require quarterly (rather than monthly, as is currently the case) reporting by such firms of their compliance with the enhanced supervisory requirements.

The NFA proposal was submitted to the CFTC on October 6 and, unless the CFTC notifies NFA that it has determined to review the proposal, will take effect 10 days after receipt by the CFTC.

The proposed amendments can be found here.

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Co-authored by Jonathan Rotenberg

The U.S. District Court for the Southern District of New York granted in part and denied in part copyright infringement claims brought by plaintiff, a professional photographer, against a publisher of textbooks and other related educational materials, alleging that defendant exceeded its licenses to use plaintiff’s photographs in its publications.

Defendant entered into several licensing agreements with various photo bureaus. Although defendant contracted with the photo bureaus, plaintiff retained the registered copyright for the photographs. Plaintiff alleged that on numerous occasions defendant exceeded the allowed print run for the photographs under the licensing agreements without first seeking plaintiff’s prior authorization or paying an additional licensing fee.

Defendant moved to dismiss. The district court granted the motion in connection with one of the photo bureaus, reasoning that the contractual provision in the relevant licensing agreement clearly stated that the photo bureau forgoes its right to sue for copyright infringement until defendant has been invoiced for an unauthorized usage, and failed to pay that amount within ten days of being billed. Plaintiff’s complaint failed to allege that defendant was invoiced for the allegedly unauthorized usage of the photos, and plaintiff’s related infringement claim was accordingly dismissed.

The district court nevertheless denied defendant’s motion to dismiss the claims arising out of the agreements with the other photo bureaus, reasoning that the allegations of the complaint properly stated a cause of action, despite being largely pled upon information and belief. (Wu v. Pearson Education, Inc., No. 09 Civ. 6557, 2010 WL 3791676 (S.D.N.Y. Sept. 29, 2010))

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Co-authored by Jonathan Rotenberg

The U.S. District Court for the Southern District of Indiana dismissed plaintiff’s securities fraud action against a nationwide health care benefits provider, and its officers and directors, in which plaintiff alleged that defendants artificially inflated the price of the stock by making certain false and misleading statements.

Specifically, plaintiff alleged that the defendant health care provider was experiencing system integration and claims processing problems, a growing claims backlog, lack of visibility into claims data, an inability to establish adequate reserves, and problems in adequately pricing products, prior to and during the class period, and that, as a result, certain statements defendants made during this time were false and misleading.

Defendants moved to dismiss, arguing that the allegations of securities fraud in plaintiff’s amended complaint did not adequately plead scienter under the enhanced pleading standard of the Private Securities Litigation Reform Act (PSLRA), and that the allegedly false and misleading statements at issue fell within the PSLRA’s safe harbor for forward-looking statements.

The court granted defendants’ motion, finding that the allegations in plaintiff’s amended complaint did not create a strong inference that defendants recklessly disregarded the truth when making the allegedly false statements. The court also found that the statements at issue fell within the PSLRA’s safe harbor, because they were accompanied by meaningful cautionary language and failed to create a strong inference of actual knowledge on the part of defendants. (Wade v. Wellpoint, Inc., 2010 WL 3766324 (S.D. Ind. Sept. 22, 2010))

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Co-authored by James B. Anderson

On September 29, the Securities and Exchange Commission adopted an amendment, effective upon publication in the Federal Register, to remove the specific exemption from Regulation FD for issuer disclosures made to nationally recognized statistical rating organizations and credit rating agencies, as required by Section 939B of the Dodd-Frank Wall Street Reform and Consumer Protection Act.

Under Rule 100(b)(2)(iii) of Regulation FD as in effect prior to the SEC’s final rule, the issuer or person acting on its behalf need not publicly disclose the material nonpublic information if the disclosure of such information is made to a credit rating agency that makes its credit ratings publicly available, or is made pursuant to Rule 17g-5(a)(3) to a nationally recognized statistical rating organization.

Regulation FD was adopted to address the problem of selective disclosure made to those who would reasonably be expected to trade securities on the basis of the information or provide others with advice about securities trading, by requiring that when an issuer, or any person acting on its behalf, discloses material nonpublic information to certain enumerated persons (including brokers, dealers, investment advisers, institutional investment managers, investment companies and certain persons associated with the foregoing and holders of the issuer’s securities), the information must also be publicly disclosed.

Following the removal of the Regulation FD exemption for rating agencies, if a rating agency is determined to be one of the enumerated persons covered by Regulation FD, or if a rating agency is deemed to be acting on behalf of the issuer and the rating agency discloses material nonpublic information to one of the enumerated persons covered by Regulation FD, then the obligations of Regulation FD could apply to information disclosed by the issuer to the rating agency, unless the rating agency expressly agrees to maintain the disclosed information in confidence as set forth in Rule 100(b)(2)(ii) of Regulation FD.

Click here for the complete text of the SEC’s adopting release.

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On September 10, the Securities and Exchange Commission approved amendments to Financial Industry Regulatory Authority (FINRA) Rule 6121 (Trading Halts Due to Extraordinary Market Volatility). Rule 6121 was originally adopted on June 10 and instituted an individual stock-trading pause (i.e., a single-stock circuit breaker) pilot program. The amendments expand the trading-pause pilot program to include all stocks in the Russell 1000 Index and certain exchange-traded products.

The SEC also approved amendments to FINRA Rule 11892 (Clearly Erroneous Transactions in Exchange-Listed Securities). The amendments seek to provide uniformity in the review process of such potentially erroneous trades. Specifically, the amendments provide for uniform treatment of (1) multi-stock events involving 20 or more securities and (2) transactions that trigger an individual stock trading pause by a primary listing market and subsequent transactions that occur before the trading halt is in effect for over-the-counter trading.

Click here to read FINRA Regulatory Notice 10-43.

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On September 22, the Securities and Exchange Commission released a notice of proposed rule changes submitted by the Chicago Board Options Exchange (CBOE). The CBOE proposes to amend its qualification, registration and continuing education requirements for individual Trading Permit Holders and individual associated persons.

The proposed amendments expand the CBOE’s registration and qualification requirements to include additional types of individual Trading Permit Holders and individual associated persons. Under the proposed amendments, the CBOE will require additional Trading Permit Holders and associated persons to submit appropriate application for registration online through the Central Registration Depository system (Web CRD), which is operated by the Financial Industry Regulatory Authority, complete any qualification examinations and submit any required registration and examination fees.

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Co-authored by Joshua A. Penner

The Commodity Futures Trading Commission has published an Advanced Notice of Proposed Rulemaking seeking public comment regarding the appropriate regulatory treatment of agricultural swaps.

The Dodd-Frank Wall Street Reform and Consumer Protection Act provides that “swaps” (which are defined to include options) in an “agricultural commodity” (as defined by the CFTC) are prohibited unless entered into pursuant to a rule, regulation or order of the CFTC adopted pursuant to section 4(c) of the Commodity Exchange Act (CEA), the CFTC’s general exemptive authority.

The CFTC notes that, under the current regulatory framework, Part 35 of its Regulations permits bilateral over-the-counter agricultural swaps between eligible counterparties subject to certain requirements, while Part 32 of the Regulations separately permits certain counterparties to enter into “agricultural trade options,” also subject to certain requirements.

Because Part 35 of the CFTC Regulations was promulgated under the CFTC’s exemptive authority under Section 4(c) of the CEA, the swaps exemption under Part 35 continues to be effective pursuant to Section 723(c)(3) of the Dodd-Frank Act. However, Part 32 of the CFTC Regulations, which was promulgated under the CFTC’s plenary authority regarding commodity options under Section 4c(b) of the CEA, has been superseded by Dodd-Frank, and the CFTC must therefore promulgate new regulations concerning options on agricultural commodities.

The CFTC is seeking comment on the appropriate conditions, restrictions or protections to be included in any CFTC regulation or order governing the trading of agricultural swaps and agricultural options, as well as information regarding the current market in agricultural swaps and options and the impact of clearing requirements on the current market.

The Federal Register release concerning the proposed rulemaking, including the method for submitting comments, can be found here.

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Co-authored by Gregory C. Johnson

The Fifth Circuit found that buyers of natural gas did not commit fraud by reporting artificially low sales prices to an industry index in order to reduce market prices.

Plaintiff Rio Grande Royalty Co., Inc. sold natural gas at prices based on those published in an industry index. Defendants, who sold and bought natural gas but were net buyers, strategically sold gas from 2003 through 2005 at below-market prices and reported these sales to the index to suppress published prices. Rio Grande alleged that the defendants were liable for fraud for reporting their artificially low prices to the industry index. The U.S. District Court for the Southern District of Texas dismissed Rio Grande’s fraud claim, and Rio Grande appealed.

Rio Grande argued that the truthful reporting of transactions tainted by market manipulation can amount to fraud and that failure to disclose this misrepresentation constituted a fraudulent omission of material fact. The Fifth Circuit rejected the argument, holding that defendants reported actual data from the transactions and were not obligated to correct their accurate reports. (Rio Grande Royalty Co., Inc. v. Energy Transfer Partners, L.P., 2010 WL 3565192 (5th Cir. Sept. 15, 2010))

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Co-authored by Gregory C. Johnson

A beverage distributor was precluded from presenting an expert’s assessment of its purportedly lost profits because the expert’s conclusions regarding revenue forgone by the new business were not based on relevant data.

R&R International, Inc., a beverage distributor, accused Manzen, LLC, of breaching the distribution agreement they entered in 2008 and sought $8.1 million in lost profits based on an expert’s report. The expert, a former financial advisor with substantial experience in the beverage industry, had gathered information about R&R’s potential earnings from industry contacts and estimated certain costs based on market averages. The defendants sought to exclude the expert’s report as unreliable.

The U.S. District Court for the Southern District of Florida held that plaintiffs generally can recover profits lost by new businesses pursuant to the “yardstick” test, by which statistics from comparable businesses are used to estimate lost profits to “a reasonable certainty.” The district court rejected R&R’s expert’s opinion, holding that a survey of the expert’s contacts, which included results from distributors of alcoholic and non-alcoholic beverages, was not based on sufficiently comparable businesses because R&R distributed only non-alcoholic drinks. The expert’s estimation of market costs was similarly unsupported by relevant data. The district court also found that other aspects of the expert’s conclusions were unreliable and excluded the expert’s assessment of R&R’s lost profits. (R&R Intern., Inc. v. Manzen, LLC, 2010 WL 3605234 (S.D. Fla. Sept. 12, 2010))

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On September 27, the Federal Deposit Insurance Corporation (FDIC) Board of Directors approved the issuance of a proposed rule to implement provisions of the Dodd-Frank Wall Street Reform and Consumer Protection Act to provide depositors at all FDIC-insured institutions unlimited deposit insurance coverage on noninterest-bearing transaction accounts beginning December 31, 2010, through December 31, 2012. Under the proposal, the FDIC will create a new, temporary deposit insurance category for noninterest-bearing transaction accounts. These accounts are primarily checking accounts used by businesses for payrolls, accounts payable and other purposes.

Unlike the FDIC’s voluntary Transaction Account Guarantee (TAG) Program, which will expire at the end of this year, the Dodd-Frank provision will apply at all FDIC-insured institutions, and it will cover only traditional checking accounts that do not pay interest. The proposed rule emphasizes that, starting January 1, 2011, low-interest consumer checking accounts and Interest on Lawyer Trust Accounts (IOLTAs) (currently protected under the TAG Program) will no longer be eligible for an unlimited guarantee.

The proposed rule requires insured depository institutions to provide notice and disclosure requirements to ensure that depositors are aware of and understand the types of accounts that will be covered by this temporary deposit insurance coverage. To comply with the disclosure and notification requirements, institutions must: post a notice in their main office, each branch and, if applicable, on their website; notify customers currently covered by the FDIC’s TAG Program that, beginning January 1, 2011, low-interest checking accounts and IOLTAs no longer will be eligible for unlimited guarantee; and notify customers individually of any action they take that will affect the deposit insurance coverage of funds held in noninterest-bearing transaction accounts.

The FDIC will be accepting comments on the proposed rule through October 15.

Read more.

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Co-authored by Ann M. Kim

Employers that sponsor defined contribution retirement plans, such as 401(k), 403(b) plans and governmental 457(b) plans, can now allow certain participants to convert their retirement plan accounts into “Roth” accounts within the plan, through an “in-plan Roth conversion.” In-plan Roth conversions are permitted under the Small Business Jobs Act of 2010, which was signed by President Obama on September 27. The chief tax advantage of a Roth account is that, when distributions are made from it, they are entirely tax-free, in the same manner as a Roth IRA.

An in-plan Roth conversion is an in-plan rollover of any or all of a plan participant’s account (other than amounts made as Roth contributions to the plan) to a designated Roth account in the plan. The plan must permit Roth contributions and be amended to permit the in-plan Roth conversions. In addition, the participant must be at least age 59½ to make the in-plan Roth conversion. If the plan does not now permit in-service distributions at age 59½, it must be amended to do so, and the amendment can limit such distributions to amounts used in an in-plan Roth conversion.

Prior to this legislation, a participant who was eligible for an in-service distribution could achieve the same result by making a direct transfer to a Roth IRA, but this feature allows the money to stay in the plan, where it can remain invested in the plan’s investment options.

A participant who elects an in-plan Roth conversion has taxable income to the same extent as if he or she simply took a distribution from the plan. Participants who elect a Roth conversion during 2010 recognize the income evenly in 2011 and 2012, unless an election is made to recognize it in 2010. After 2010, the participant recognizes taxable income for the year of the in-plan Roth conversion. There is no income limitation above which one cannot make an in-plan Roth conversion, either in 2010 or in subsequent years.

Employers who would like to offer the in-plan Roth conversion feature should begin the process as soon as possible, so that participants who wish to can take advantage of the spreading of income from the conversion over two years. The explanation of these provisions issued by the Joint Committee on Taxation states that it is intended that employers can offer the in-house Roth conversion in 2010, and that the IRS will provide a “remedial amendment period” sufficient for later amendment of plans to reflect these changes.

The Small Business Jobs Act of 2010 can be found here.
The Joint Committee on Taxation explanation of the Small Business Jobs Act of 2010 can be found here.

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On September 27, the UK Financial Services Authority (FSA) published its final notice previously issued to Fabio Massimo De Biase fining him a total of £252,239 (approximately $398,800).

Mr. De Biase’s former employers TFS Derivatives Ltd carried out cash equities trades on an execution-only basis for AKO Capital LLP. Mr. De Biase agreed with hedge fund trader Anjam Ahmad to increase the commission rate and split the income received.

As a result, AKO was overcharged by $739,000. The FSA found Mr. De Biase in breach of Principle 1 of the FSA’s Statements of Principles and Code of Practice for Approved Persons.

The fine consists of the £198,000 (approximately $313,260) increased income earned by Mr. De Biase and a penalty of £54,239 (approximately $85,800). The initial fine was reduced by 30% to reflect the early settlement.

The final notice issued to Mr. De Biase can be found here.
The final notice issued to Mr. Ahmad can be found here.

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On September 30, the Alternative Investment Management Association (AIMA) released its latest campaign update, detailing further delays to the progress of the Alternative Investment Fund Managers Directive. The plenary sitting of the European Parliament has been postponed from October 6 to October 19.

The Belgian government, which currently holds the rotating Presidency of the European Council, has drafted a new compromise text. For the controversial third country issue, a dual system of EU passports and private placement regimes is proposed.

France has rejected Belgium’s text and produced its own, which rules out passporting. Although the French version is backed by Germany, Italy and Spain, AIMA deemed it “unacceptable.”

Currently, neither texts are available to the public. The Belgian text will be submitted at the meeting of the Member State ambassadors on October 6, but without a qualified majority, it will need to be re-drafted. Given the French opposition, AIMA is of the opinion that Belgium will have to enter into negotiations.

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On September 30, the UK Financial Services Authority (FSA) published a speech given by its Chairman, Lord Turner, on essential regulatory reforms.

Lord Turner’s speech outlined three key proposals:

• Higher capital and liquidity standards, plus more volatility buffers. Lord Turner believes a satisfactory capital requirements directive would be brought under Basel III.
• EU measures to solve the problem of “too big to fail” systemically important financial institutions 
• Macroprudential analysis and policy tools to reduce excessive credit growth. Again Lord Turner advised EU-level implementation from the European Systemic Risk Board.

To read the speech in full, click here.

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