Implementing Electronic Signatures - Emily Walsh

In 2000, Congress enacted the Electronic Signatures in Global and National Commerce Act (“E-SIGN”) to ensure the validity of contracts entered into electronically. 15 U.S.C.A. § 7001. E-SIGN allows parties to bind themselves contractually without traditional pen and paper, permits the electronic delivery of legally required notices and disclosures, allows for electronic record retention, and contains consumer protection measures requiring consumer notice and consent. When considering the implementation of an electronic signature there are a several issues a company should keep in mind. First, a record or signature signed electronically may not be denied legal validity or enforceability merely because it is in electronic form. 15 U.S.C.A. § 7001(a)(1). Second, if a statute requires a record to be in writing, an electronic record satisfies E-SIGN. Third, if a statute requires a signature, an electronic signature will satisfy the statute. Lastly, E-SIGN does not require use or acceptance of electronic records or signatures, and is only binding if the parties agree to use or accept electronic records and signatures. 15 U.S.C.A. § 7001(b)(2).

E-SIGN does not specify the form an electronic signature must take to be valid. The statute defines an electronic signature as “an electronic sound, symbol, or process, attached to or logically associated with a contract or other record and executed or adopted by a person with the intent to sign the record.” 15 U.S.C.A. § 7006(5). Therefore, a company can adopt any form of E signature required to fit its needs. For instance, a company can utilize a click through process (i.e. an “I Agree” or “I Accept” button), a pin number, a biometric measurement (i.e. fingerprint(s)), an “X” at the bottom of an email, or any other signature form. Once a company decides which form of electronic signature is best suited, the company should adhere to the following guidelines to implement an electronic signature:

1.) Identify Affected Policies and Procedures Review your company’s policies and procedures to determine whether they fall within the purview of E-SIGN. E-SIGN could potentially affect any policy or procedure that requires parties to use traditional paper and ink signatures. Yet, keep in mind that E-SIGN only applies if a statute, regulation, or other rule of law requires that information relating to a transaction is provided or made available to a consumer in writing. Thus, E-SIGN only affects laws imposing writing or signing requirements. Furthermore, the statute excepts certain contracts and records, including, but not limited to, the cancellation or termination of health insurance, benefits, or life insurance benefits, excluding annuities. 15 U.S.C.A § 7003(2)(C).

2.) Ensure the Consumer is Aware of Hardware and Software Requirements The statute defines “consumers” as those who obtain, “through a transaction, products or services which are used primarily for personal, family, or household purposes.” 15 U.S.C.A. § 7006(1). Before consumers can validly consent to a transaction, they must be aware of the hardware and software requirements for access and retention of electronic records. 15 U.S.C.A § 7001(c)(1)(C)(i). The company must provide a statement to the consumer detailing such requirements. Furthermore, the consumer must consent or confirm his or her consent electronically, in a way that “reasonably demonstrates” the consumer can access the information in the electronic form that he or she will use to offer consent. 15 U.S.C.A. § 7001(c)(1)(C)(ii). While the statute does not define “reasonably demonstrates,” legislative history provides some insight. A “reasonable demonstration” may be satisfied in several ways. First, the consumer may send an email confirming that he or she can access the electronic records. Or, a company can ask the consumer if he or she can access the electronic records, and the consumer can affirmatively respond. Lastly, a company may demonstrate that the consumer actually accessed the electronic records. See S.CONF. REP. No. 106-71, at S5282(2000).

3.) Provide Clear and Conspicuous Disclosures Before consumers can consent to electronic notices or disclosures, E-SIGN requires that consumers receive several clear and conspicuous disclosures. Such disclosures should not be buried or hidden in a company’s website, but should be prominently displayed. In addition to the hardware and software requirements, the company must notify consumers of:

a.) The Right and Procedure to Receive Paper Records. E-SIGN gives consumers the option to be provided with, or to have the record made available in a non-electronic form. The company must notify consumers of their right to receive a paper copy of an electronic record upon request, as well as any costs associated with obtaining such a copy.

b.) The Right to Withdraw Consent.
After consenting, consumers may withdraw their consent to have their records provided in electronic form. However, the company must notify consumers of their right prior to consumers giving consent. In addition, companies must inform consumers of any conditions or consequences in the event consent is withdrawn. Such consequences can include, but are not limited to, termination of the parties’ relationship or fees.

c.) The Need for Updates.
The company must also notify consumers of the consumer’s need to update their electronic contact information, should the company need to contact them.

d.) The Scope of the Consent. The company must notify consumers as to the application of their consent. For instance, the consumer’s consent may apply to categories of records that become available during the course of the parties’ relationship. The company must make a clear and conspicuous disclosure regarding what transactions and records fall within the scope of the consumer’s consent.

4.) Obtain the Consumer’s Informed Consent For a transaction to be valid, a consumer must affirmatively consent to receive documents in electronic form. While E-SIGN does not state what constitutes “affirmative consent,” in 2001 the Federal Trade Commission and the Department of Commerce held a workshop to discuss “best practices” for obtaining electronic consumer consent. The suggestions included using plain English in the disclosures. In addition, a company should provide information about what it means to consent to electronic delivery such as the ramifications of consumers agreeing to pop-up messages, and should encourage consumers to print out the disclosures. A company should also offer customer support. Documenting E-Commerce Transactions, § 4:3(2008). 5.) Notify Consumers Changes in Hardware or Software Requirements if Necessary

If the consumer affirmatively gave consent, has not withdrawn such consent, and has been provided with the above discussed disclosures, then the transaction is valid. However, the company’s obligations to consumers regarding their electronic signatures have not yet ended. If there is a change in hardware or software requirements which poses a material risk to the consumer’s ability to access or retain the electronic records that were subject to the consent, then the consumer must be notified of the subsequent change. In addition, the consumer must electronically re-consent in a manner that reasonably demonstrates the consumer’s ability to access the electronic record. The consumer must also be informed that he or she has a right to withdraw his or her consent. Should the consumer withdraw consent, he or she cannot be subject to any condition, consequence or fee that was not in the initial disclosures.

5.) Retain Records Under E-SIGN, an “electronic record” is “a record created, generated, sent, communicated, received, or stored by electronic means.” Essentially, the term covers any type of record that is electronically generated or stored. If a statute, regulation, or law requires that a record relating to a transaction be retained, a company, subject to two conditions precedent, may satisfy the statutory requirement by using electronic records. . First, the electronic records must accurately reflect the information in the record. Second, the record must be accessible to “all persons who are entitled to access by statute, regulation, or rule of law, for the period required. . . in the form that is capable of being accurately reproduced for later reference. . . .” 15 U.S.C.A. § 7001(d)(1)(B). E-SIGN offers a degree of flexibility in record retention, by not specifying a required method. The company can choose its method of retention, whether it be paper copies, a computer hard drive, CD-ROM, main server, or any other means the company chooses. The statute requires only that the information is accurate, stored, and readily available. Failure to provide proper electronic disclosures can subject a company to compliance risks.

Executive Compensation Re-Regulation: Congress, the Federal Reserve, and the Securities and Exchange Commission

A team I have been working with just fed updates on a research document to some journals >> I scored a new section on executive compensation re-regulation! Each piece of re-regulation described below focuses on localized risk reducing initiatives in the name of the greater financial system.

Congress

The Corporate and Financial Institutional Compensation Fairness Act of 2009. Introduced by Representative Barney Frank (D-MA) in July, and out of Committee and the House Floor that same month. It is currently sitting in the Senate Committee on Banking, Housing, and Urban Affairs. (Most of the commentary I read suggested it would be dealt with there in the Fall of 2009, however …).

The bill amends the '34 Act to give shareholders a nonbinding advisory vote on all issues of executive compensation. Interesting trick here: institutional investment managers that cast such votes are required to publicly disclose how they voted – each year. There is also some discussion about compensation committee members – rules preventing conflicts of interest (so a prohibition on taking any sort of consulting or advisory fees from the issuer). Second interesting trick: the bill directs nearly a dozen federal regulators to formally convene and create new compensation and disclosure rules. One piece of construction guidance offered in the bill: individuals' specific income should not be disclosed. There you go, Tea Partiers. Here is the text of the bill.

The Federal Reserve ("Fed")

The Fed has issued Proposed Guidance on Sound Incentive Compensation Practices. I was deceived when I first opened the Federal Register; it sounded aspirational, at best. On the contrary – I counted the number of times the Fed threatened a poor supervisory rating or an enforcement action for failing to remedy a deficiency - twice - and the number of times the Fed directed immediate effort by banking organizations to come into compliance – three.

Every banking organization under the Fed's supervision is required to come into compliance with the guidance. The guidance is applicable to both executive employees and lower-level employees; it is more targeted towards any employee whose work responsibilities expose the employer bank organization – and again, the larger financial banking system as a whole – to risk. Interesting here: rather than establishing one rule for twenty different types of banking organizations, the guidance states several principles the Fed wants all of the banking organizations to come into compliance with; how any one bank abides by the principles is self-determined. The principles focus on managing the relationship between incentive compensation and employee risk-taking. Broadly, incentive packages should not encourage employees to risk-take beyond the employer banking organization's internal ability to identify, manage, and support that risk. As a means of collecting best practices (maybe a structural means of pushing compliance?), the Fed has created a scheme to supervise compliance. There are two tracks: one for large complex banking organizations ("LCBOs") and a second for smaller, less structurally complicated banking organizations. LCBOs are expected to offer a compensation plan to the Fed; smaller organizations will be assessed on compliance as a part of their annual risk examination process. You can read the text of the Fed's guidance in the Federal Register here.

The Securities and Exchange Commission ("SEC")

In an effort to better enable investors trying to identify the internal risk assumption and reward of a company, the SEC has adopted amendments regarding the disclosure of all employees' compensation. The new disclosure rules are effective February 28, 2010.

Companies are expected to disclose compensation practices that create the risk of a "reasonably likely" "material adverse" effect on the company. Companies are in fact to list situations occurring with their pay practices and among their employees that illustrate when a compensation practice does in fact create a "reasonably likely" risk of "material adverse" effect. (It appears there was a give-and-take during the comment period on the language.) Stef commentary on the effectiveness of the forthcoming disclosure: the list is explicitly non-exhaustive … The disclosure will be made in a new paragraph in Item 402 of Regulation S-K.

Also as regards company disclosure of stock and option grants in the Summary Compensation and Director Compensation Table – use the aggregate fair value grant date and footnote performance awards to disclose an award's maximum value.

(The SEC also voted to approve amendments: creating greater transparency for investors in determining conflicts of interest as regards compensation consultants; and a variety of disclosures regarding the board of directors, as regards nominee and director qualifications, the board's diversity, and the board's structural leadership.)

The final version of the SEC's amendments can be found here.

Image credit: SEC.

UPDATE: executive compensation, corporate governance, and securities

I am so tired I want to scratch my eyes out. And so in lieu of going blind, I am only posting updates of some of what has transpired over the last two weeks regarding some of my pet issues. FWIW - presented here briefly to bring this blawg up-to-date. Thanks - have a *Great* New Year's!!

Bank of America

So with only two weeks left in the year, and right after they repaid their federal funding, BofA chose a new CEO ... who knew it would be the same guy who had a hand in the way the Merrill merger closed and who did not impress Congress while testifying about it. Oh, and FYI: the SEC has broadened its investigation.

Bank Closings

We're now up to 140 banks the FDIC has closed in 2009 alone. Good times.

Banker Bonuses

France follows the U.K. and levies a hefty tax on banker bonuses. Some call it "unfair."

Goldman is a veritable money machine, but there are rumblings inside that the "ethos" has changed ... which is largely of no importance to the demonstrators on the street who still want to see the firm burn.

Outgoing Morgan Stanley CEO John Mack has, for the third year in a row, rejected his year-end bonus. He noted the "unprecedented environment" and "extraordinary financial support" the federal government has used to buttress the banking industry. Morgan Stanley itself is modifying its compensation structure; nothing is definite yet, but rumour is that nearly 2/3rds of executives' pay will come in the form of stocks and will be subject to a clawback provision.

And whether you needed a rumour to confirm it: that all important meeting between banking heads and the President was more show than anything else. From whose perspective, I wonder ...

Compensation Czar

Citi Group and Wells Fargo got out from under TARP restrictions, including Kenneth Feinberg's executive compensation rulings. Good week for Citi - they also got a tax break.

It was announced just yesterday that GMAC will receive several billion more in federal funding.

And just as we learn about the inner turmoil AIG faced as it melted, we shouldn't be surprised bonuses promised to NYAG Cuomo to be be repaid are slow in materializing ... Oh, and Feinberg's recent rulings were modified in light of some fits thrown at AIG.

Re-regulation

The ABA is out to destroy it.

Barney Frank's Wall Street reform package includes significant regulation of the credit rating agencies, including offering investors the explicit right to sue the agencies.

Stock Option Backdating

Broadcom criminal suits are dismissed; all three. Just today, then, Broadcom antes up to settle outstanding shareholder suits.

Similarly, Comverse settles for a record amount, represented by our favorite counsel du jour, Wachtell.

Is there an Antidote for Russia's Corruption Problem? by Vlad Frants

Recently, a BusinessWeek article depicted corruption as "Russia's economic stumbling block." Sure, if corruption were decreased then people would be less weary of investing in Russia and a major economic stumbling block would be removed. But how easy can it be to markedly decrease corruption in a place where for so many years judicial enforcement was almost nonexistent, substantive legal remedies available to underpaid and inexperienced judges were ill-defined and Russians were working under tremendous cultural constraints to not follow the law?

Anti-corruption laws don't sound bad and Russia has already made important strides in the right direction by overhauling a problematic tax system, introducing bright-line limitations on local authorities in order to reduce arbitrary bureaucratic actions and creating the Council for Combating Corruption. But perhaps the focus shouldn't be only on decreasing corruption by side line participants. Perhaps there should be a solution from the inside-out.

What if there existed a corporate governance model for Russia that itself led to decreased corruption by molding the right cultural mindset? Bright-line rules, rather than standards, to define proper and improper behavior. Strong legal remedies to compensate for the low probability that the sanctions will be applied. Greater protection of outside shareholders than is common in developed economies. Enforcement, as much as possible, through actions by direct participants in the corporate enterprise (shareholders, directors, managers), rather than indirect participants (judges and regulators).

These are elements of the "self-enforcing" model of corporate law which was introduced by professors Bernard Black and Reinier Kraakman in 1995 for Russia. After creating the model and seeing that it was unable to withstand the socio-economic difficulties and setbacks that Russia faced in the years preceding Russian President Vladimir Putin's tenure, the professors abandoned the model.

In a law review article entitled "Russian Corporate Law: is "Self-Enforcement" Still the Way to Go?, 13 UCLA J. INT'L L. & FOR. AFF. 435 (2008), I reviewed some of the positive changes that President Putin implemented in Russia and argued that we should reconsider a self-enforcing model for Russia.

Perhaps assimiliating the elements of the professors' "self-enforcing" model, coupled with aggressive anti-corruption campaigns, would be the best antidote for Russia's corruption problem.

BREAKING: Treasury released rules on compensation rules

I was - literally - just writing a post on how overblown the last 24 hours in the news has been over a rumour about Feinberg's rulings. And then voila: a Treasury document containing proposals and Q & A transcript pops up on my handheld. Comments are of course being solicited by the Federal Reserve.

Will make an effort to digest through the day >> more posts coming.

Hat-tip: WSJ.

BofA Board Waives Privilege: produces documents otherwise protected by attorney-client privilege

The WSJ reported last night that BofA's board voted Friday to waive it's attorney-client privilege, producing documents to various moving parties regarding the Merrill merger. Specifically, the documents produced will be between BofA and outside counsel regarding Merrill 4Q08 losses, the Merrill 2008 bonuses, and the manner and extent those bonuses would be publicly disclosed.

I have followed the BofA and Merrill matter closely (See e.g. here and here). Recall briefly that as various government and plaintiff investigations proceeded, BofA executives maintained they executed the Merrill merger and Merrill bonus disclosure per the advice of outside counsel. Then when asked what counsel advised, BofA executives indicated such information was privileged. BofA maintains they have done nothing wrong.

Big Law implicated in the matter? BofA outside counsel during the merger was Wachtell; Merrill counsel during the merger was Shearman Sterling. Current BofA counsel, as regards the various investigations into the Merrill merger, include Cleary Gottlieb and Paul Weiss.

BofA for Today: UPDATES

BofA is simply the gift that keeps on giving.

The Board's move to replace Lewis as CEO is growing more problematic than anticipated, and creating some waves. There are concerns that names being floated are not worthy ("tainted" by the Merrill merger decisions).

Ken Lewis' retirement pay will comfortably total over $100 million, in accrued benefits and deferred compensation (including stock). Despite Lewis' performance up to the Merrill merger (that largely made BofA the titan it is today), people are clamouring for Czar Feinberg to veto that figure. No comment from Feinberg's office.

On top of this: there are rumblings about what can Lewis was advised by his GC at the time of the Merrill merger, and if he actually ignored the counsel. I suspect this rumour is going to grow between now and the time of the SEC trial ...

Which, by the way, has been moved to March and is now a jury trial.

Regarding the various shareholder matters? Earlier this week, a major BofA shareholder filed a document with the SEC making various demands on the BofA board (GC should talk, and start an internal investigation by an other outside counsel). Separately, a motion to dismiss a shareholder suit is occurring next week in Delaware (a request has been filed with the court to webcast the matter).

Maloney & Porcelli Fake Receipt Generator, Stoneridge, and Scheme Liability

How does an idea like this get out of a marketing department?

The WSJ reported yesterday that Maloney & Porcelli's steakhouse has created an online receipt generator to expense otherwise unexpensable items. So let's say you spend $150 on a steak lunch (or a mani, pedi, and massage); largely unexpensable, right? But the steakhouse's website allows you to enter the $150 amount and receive a cash receipt that details an expensable item (offices supplies, cab fare, etc.). Seriously - check it out here. There's no charge for a fraudulent receipt: you merely go to the website, enter an amount, and a pdf receipt is generated for you (with aesthetic elements including frayed edges and slight discoloration). If the amount you entered is particularly large, you will receive several fraudulently generated receipts that total your amount.

The restaurant reports that in one week, over 88,000 fake receipts have been downloaded. An ad executive and webmaster interviewed for the article were represented as blase regarding legal culpability. I find that danerously short-sighted, but more honestly was intriqued by the larger context of this sort of PR stunt. (I have been debating a post about last year's Stoneridge decision, the proposed legislation to overturn it and institute scheme liability, and the varying subsequent lower court treatments of the decision. Seeing this article has cemented my intent to write on the matter, although I think I will break it up into several posts. Stay tuned!).

You better check the receipt generator out now >> Maloney & Porcelli has already received several cease-and-desist orders from franchises misrepresented on the fraudulent receipts, and I suspect more are on the way ...

Photo credit: "Maloney & Porcelli Expense Report Generator."

Pay Czar UPDATE: Deferred Equity Compensation expected across the board; AIG Benmosche Compensation Approved

Ken Feinberg has been reviewing the compensation proposals at a number of significant federally bailed-out companies; notably AIG, BofA, Citigroup, GM (and GMAC), and Chrysler (and Chrysler Financial). It was widely expected he will lean heavily towards cutting salary compensation in favor of deferred equity compensation. It is now being reported that AIG's CEO Robert Benmosche's compensation for 2009 has formally been approved by Feinberg. Feinberg wrote to AIG's compensation committee that Benmosche's $3 million in salary and $4 million in deferred equity compensation was "appropriate" when compared to peer executives.

Kenneth Feinberg more appropriately carries the title of Special Master under the Treasury Department, but is frequently referred to as the Compensation Czar. The Obama Administration anticipates Feinberg's decisions to be a model "best practices" moving forward, but it is apparent the Federal Reserve may move in a slightly different direction when it announces its pay re-regulation as regards the banking industry. The bottom-line across the board in both instances, however, is to effecitvely incentivize workers to forgo undue short-term risks so as to concentrate on long-term financial profitability and stability.

Previous blawg discussion by either Allen or myself regarding Kenneth Feinberg can be found here. All blawg discussion regarding executive compensation can be found here.

Photo credit: Associated Press via WSJ.

BofA UPDATES: Emergency CEO and Some Federal Pressure (but not to hide the bonuses)

Good Morning! Two quick notes, reported across the media outlets yesterday afternoon and this morning:

Preceding Ken Lewis' signal for early retirement, the company created a committee to name an emergency CEO. Post-Lewis-announcement, the efforts have been accelerated and a contingency plan is expected to be submitted to the board for approval this week. This contingency plan is also expected to be submitted to government regulators for approval (BofA received TARP funds). Pending both approvals, the plan would only come into affect if the current legal drama forces Lewis to step down even earlier than announced.

Separately, an other BofA committee is investigating long-term replacements for the CEO. The final list will also be submitted to the board and the federal government for approval.

And finally, TARP Special Inspector General Neil Barofsky was also investigating the matter of whether the federal government unduly pressured BofA into the Merrill deal. Barofsky concluded that while Fed and Treasury pressure was applied to BofA to complete the deal, federal officials did not advise withholding public disclosure of the Merrill bonuses.

*Happy*Tuesday*

Can Ken Lewis take the fall for all of this? Bank of America.

It’s hard to find television this entertaining; I mean, really.

Ken Lewis announced his resignation as CEO of BofA on Tuesday. Although sometime in 2010* is indicated as his end-date, there is no conclusive date yet. Too, no successor has been named (although a CEO Committee is being formed today). The Board certainly must have been anticipating this, as they only met last week to discuss the escalating legal issues facing the company – and Lewis - as a Congressional deadline for more information came and went with a tardy BofA response (they’re submitting more documents to the House Comm. on Oversight and Gov. Reform). (Teaser: commentators at CorporateCounsel actually think the federal government didn’t bully BofA into the merger, but that BofA in fact bullied the federal government).

Congress isn’t the only dog in this park, though. There are a number of state suits moving ahead against BofA, including NYAG Cuomo, NCAG Cooper, and OHAG Cordray (filed in S.D.N.Y. and moving quickly). There are a number of federal investigations moving against BofA, including the SEC and an alleged DOJ and FBI criminal investigation. There is also (and what I suspect to be only the beginning) a number of civil suits: including the dead-in-the-water suit seeking 1,784 billion trillion in damages, the class action by Wolf Popper, the shareholder suit in Kansas …

Had enough?

As regards the SEC matter, both the government and BofA filed a case management plan last week that stipulates a February trial date. BofA also submitted trial filings last Friday, available here via AmLawDaily (their response remains consistent throughout the several briefs in the matter: we did nothing wrong). Apart from a trial, commentators have speculated the parties could submit a new settlement to Judge Rakoff, appeal Rakoff’s September decision, or the SEC could either drop the complaint altogether or proceed with an administrative hearing.

*UPDATE added 10/02/2009 at 2pm: Lewis originally intended to continue as CEO until the end of 2010, but is now apparent he will hold his executive position only until the end of 2009.

Photo credit: AFP/Getty Images via WSJ.

Navel Gazing and UPDATE: Executive Compensation and Financial Markets

So I’ll admit my own distraction for the last week, but was surprised that when I tuned-in again, the issues of executive compensation and market regulation had been subject to significant movement. Seriously: this is why people are afraid to take vacations.

The Consumer Financial Protection Agency (“CFPA”) being proposed by the Obama Administration (discussed earlier here) has taken some serious heat >> members of the President’s own party are offering competing proposals that in fact contain no mention of CFPA at all. Well, sort of … in place of creating a new federal regulatory structure for financial products marketed to consumers, Representative Walt Minnick (D – Idaho) has proposed having existing state and federal regulators work with one another under a Consumer Financial Protection Council (“CFPC”). Rumor also has it that once supportive House Financial Services Committee Chairman Barney Frank (D – Mass.) has indicated that the final bill will not contain the “plain vanilla mandate;” recall, under the CFPA, the government would create standard financial products that would be required to be offered in tandem with specialty products banks and firms offered to consumers. The House Committee meets today at 10am to continue hearings on the matter; a webcast is available from the House site here.

The SEC is creating a new division of Risk, Strategy and Financial Innovation. The new division will advise the commission on how new developments, products, and trends may affect the financial market and systemic risk. The division actually pulls together functions across existing Commission divisions, including the Office of Economic Analysis and the Office of Risk Assessment.

Microsoft’s Board of Directors approved a shareholder say-on-pay proposal, giving its shareholders an advisory vote on executive compensation. The first vote will happen at this year’s shareholder meeting on November 19th, and then occur again every three years after.

The Federal Reserve itself is moving to amend compensation practices, and is seeking to expand its regulatory reach regarding the compensation of nearly all bank employees. Caps are not being sought, but evidently the Fed is toying with different methods of how to curtail the amount of risk-taking employees throughout the bank take on behalf of consumers.

Glad the Fed thinks it can fix something, because every time you hear a bell ring, another American bank fails.

And our favourite main-man – Kenneth Feinberg the Pay Czar – has announced that within the next several weeks he will be disclosing some of the compensation revealed to him and approved by him. Rumour is Feinberg is looking to set some manner of precedent.

And precedent seems to be all we will be getting out of the recent G-20 meeting on the issue of executive compensation. Each of the world leaders in attendance affirmed their intent to reform executive compensation and capital requirements at banks, and then they each exchanged promise rings and caught the next flight home.

FWIW – a few of the headlines I found in my inbox over the course of last week. My continued obsession with Bank of America (“BofA”) of course continues, and has also been hot lately. BofA warrants its own post, though, so see you at lunch!

Photo credit: Anne Geddes, as portrayed by Pauline Kaill on Playle's Online Auction.

Who is Judge Rakoff of the S.D.N.Y.?

I had written this on one of my hand tablets to develop as a post later. In light of the continued BofA drama, I thought it would make an interesting and timely post. Et voilà: Glovin at Bloomberg beat me to it. Check it out: it's a interesting write-up.

Holy Crap: Rakoff refuses to approve BofA settlement - trial in February?

Hot stuff! So-o hot; very hot. Despite both the SEC and BofA asking the Court in their briefs last week to approve the $33 million dollar settlement reached in August, the NYTimes blog Dealbook reported at lunch that Judge Rakoff has said “No.” The Opinion is here, but suffice it to know Rakoff focuses his attention on the BofA shareholder. Rakoff wonders how a settlement for acts committed against BofA shareholders is remedied by a payout by those same shareholders – ironically, where the BofA management who decided to pay are presumably the same BofA management who are alleged to have committed the acts. Rakoff acknowledges that deference is typically and appropriately shown to settlements achieved between parties, but then cites case law that empowers courts to scrutinize and deny them. Rakoff concludes the $33 million “proposed consent judgment is neither fair, nor reasonable, nor adequate.”

Have I mentioned how hot this is?

The Judge elaborates. It’s not fair because it smacks of injustice: why should the victims of the act pay the penalty? Rakoff even goes so far as to question, that if BofA executives were relying on counsel’s advice, why not have the attorneys pay the penalty? Even better, Rakoff calls out BofA for not providing the information the Judge asked for in August: “precisely how the proxy statement came to be prepared, exactly who made the relevant decisions as to what to include and not to include so far as the Merrill bonuses [are] concerned.” In a fn. on page seven, Rakoff’s language suggests he considers the $33 million trivial. Rakoff in fact characterizes the settlement as a “contrivance.”

Rakoff continues: the judgment is unreasonable (for all the reasons it is unfair, but also) because the arguments contained in the briefs don’t match the parties' actions. The Court cites an example: the settlement would close the matter, but the SEC maintains in one place it has the evidence to meet the mental element required by law, but in another place maintains it does not. More fn.s: did government coercion have anything to do with this? Why hasn’t the advice of counsel argument been fully tested? Rakoff then beats it home: the injunctive relief requested (that BofA cannot issue false proxies in the future) is a joke >> BofA maintains they did nothing wrong and so would be free to issue proxy statements identical to the one at the heart of this matter (thereby resolving nothing).

Rakoff’s inadequacy reasoning: $33 million in light of a multi-billion dollar merger (Aka., please?!).

We’re off to trial, Baby! Rakoff set a February 1, 2010 date and requested the Parties submit a jointly proposed Case Management Plan within a week.


Hat tip: Louise Story at NYTimes.

UPDATE THREE of THREE: BofA and SEC briefs submitted to Rakoff

Late last month, Judge Rakoff of the S.D.N.Y. requested additional briefs from the SEC and BofA, detailing outside counsel’s involvement in structuring the Merrill merger. I have tried to follow the issue on this blawg (Ie., here). AmLaw Litigation Daily reported the briefs came in this week.

The BofA brief stuck to what is now a familiar chorus: BofA did nothing wrong because the proxy statement issued to shareholders was not handled negligently and did not contain any misleading statements or omissions. In support of this, BofA maintains the proxy statement contained both language that alerted shareholders of impending incentive pay, and that qualified the proxy statement terms regarding compensation. BofA’s brief is thorough to list, inter alia: the language qualifying the proxy statement by an other “disclosure schedule” (not publicly disclosed), language allowing exception to proxy statement terms via BofA consent, language incorporating various financial disclosures and public references to unabated Merrill Lynch compensation (such as financial statements or BofA management discussion on earnings calls), as well as a number of contemporaneous media reports that disclosed to the investing public year-end Merrill Lynch compensation to be paid. Interestingly, the brief closes with two short but common-sense defenses. First, in light of the Wall St. compensation culture, it would be illogical for Merrill Lynch to not pay year-end compensation. And second, the proxy statement was a tool to solicit shareholder approval for a merger that was based on “strategic desirability of [the] business combination” of two entities. To the extent that compensation was relevant, it was only as a means of retaining the “human capital” that constituted Merrill’s value.

The SEC brief found a new bone, however …

Discussion about the SEC brief and the privilege issue after the jump.


The SEC brief maintained that shareholders should be able rely on direct representations in a proxy statement so as to cast an informed vote, and not have the burden of stringing together “material information from a variety of external sources.” Further, the SEC found unpersuasive BofA’s reliance on “standard transactional practice” (as regards the use of the now infamous “disclosure schedule”). The SEC relied on practice area publications produced by the various outside counsel on behalf of their firms, in response to 2005 SEC guidance counseling against using nonpublic schedules in merger agreements. The SEC maintains counsel used these publications to advise their own clients not to use such nonpublic schedules. Outside counsel responded to AmLaw Litigation Daily, however, suggesting the publications are in fact a guide how clients can circumvent the 2005 SEC guidance. Separately, the SEC maintains that the proxy statements contain misstatements, and that the incorporated financial statements and references are not clear that incentive pay would be paid. Further, the SEC labels the contemporaneous media reports of incentive pay as “speculative” and sporadic. The government does make an interesting and entertaining quip, however: that BofA maintains a reasonable investor would have connected all the dots and would have known incentive pay was forthcoming; ironic, then, that this reasonable investor cannot be trusted with that information directly, so that a “disclosure schedule” detailing the incentive pay was necessary in the first place.

And what about the issue of Privilege? The case sparked a blawgging furor in August over the suggestion attorney-client privilege was waived. The SEC killed the matter, however, signaling that Second Circuit precedent holds asserting reliance of counsel constitutes forfeiture of privilege only during judicial proceedings and not during investigative processes (what does federal precedent suggest regarding Andrew Cuomo’s most recent state law escapade?). Other circuit courts are on the same page.

Bottomline: both parties encouraged the Court to approve the $33 million settlement as a fair and reasonable resolution. The next move is Rakoff’s.

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UPDATE TWO OF THREE: BofA vs. Cuomo

AmLaw Litigation Daily reported this week that New York Attorney General Andrew Cuomo, via David Markowitz at Investor Protection, is jumping on the Rakoff bandwagon. Sort of. Markowitz wrote BofA outside counsel Lewis Liman that BofA should either cooperate more fully with the NYAG’s investigation (aka, stop claiming information is privileged and let us determine to what extent you in fact relied on outside counsel in structuring the merger) or else the NYAG will be forced to pursue charges against BofA specifically (where the advice of counsel defense will not be considered). Liman publicly responded that in the first instance: BofA has done nothing wrong and therefore has had no need to, and in fact has not, raised the advice of counsel defense. And in the second instance: Liman has made multiple requests, unheeded by the NYAG, to meet with the NYAG to discuss the Merrill merger.

This is getting really interesting. I do not have ready knowledge on the advice of counsel defense, and regrettably do not have access to Lexis today (read: will try to post later, but there are loads of other lawyers writing about the privilege issue involved in this matter). I am eager to see the NYAG’s next move, however (I have discussed earlier Cuomo’s success in achieving results with only the threat of litigation) ... wonder who will blink first?

Related side note to privilege discussion: JDJournal is reporting that Cuomo’s recent move, companioned to the recent ruling in U.S. v. Textron, is beating attorney-client and work product privilege into an ever-smaller corner. (n.1.). In Textron, the First Circuit Court found that work papers prepared for the purpose of documenting tax accrual are not considered attorney work product. The Court found the principle purpose for the work papers was not legal, but in fact accounting related. Other commentators have interpreted this decision to find dual-purpose documents protected by the work product doctrine only if prepared for use in litigation. JDJournal predicted the issue is “ripe” for Supreme Court review, as Textron represents a split among the circuit courts.

(n.1.) U.S. v. Textron, 2009 U.S. App. LEXIS 18103 (1st Cir. R.I., Aug. 13, 2009).

UPDATE ONE OF THREE: BofA fired its GC during “the” merger?

The most salacious of my BofA / Merrill posts first …

Law.com reported today on a NYTimes article outing BofA for firing its GC in December 2008 - the middle of the Merrill merger! BofA maintains the firing was unrelated to any counsel offered on the merger. Gossip is, however: Mayopoulos was pulled out of a meeting with a Merrill executive and fired on the spot – escorted out of the building and provided no reasoning. Another BofA lawyer – though more properly a bank executive whose experience was “business side” – temporarily assumed the role of general counsel. Mayopoulos signed a severance agreement requiring confidentiality and has since joined Fannie Mae in D.C., acting as general counsel.

Good stuff!

Photo credit: Timohty J. Mayopoulos, as pictured on the NYTimes.

Backdating is still kicking around (Broadcom and Reyes): what is it, exactly?

AmLaw ran a post yesterday discussing the recent Broadcom settlement in the derivative suit alleging stock option backdating (reported as historically one of the largest settlement amounts). And late last month, reports were rampant about the unending litigation involved with the Brocade Communications backdating matter (It’s over! *Psyche* Those cases collectively create their own “Never Ending Story”). Only briefly: there, a federal appeals court overturned the criminal conviction of CEO Reyes. I have done research on the options backdating scandals that hit in 2006, and the petering litigation that has followed (though more frequently, settlements). These news stories catch my eye because of that context, although before such, I only had a passing familiarity with what stock option backdating was. Assuming some of our readers may be in a similar position, I wanted to offer a brief skeleton of what backdating entails.

Corporate compensation frequently includes equity-based stock option grants. Stock option grants are typically a component of executive and managerial compensation, but are also given to employees throughout the corporate structure as a means of incentive and creating a vested interest in the corporation's pursuits. When the grant is given, it creates within the recipient the right to purchase a specific number of stocks at a specific exercise price on a specific date. Many stock options are granted “at-the-money.” This describes the exercise price being equal to the current fair market price of the stock on the day of the grant. “In-the-money” options, on the other hand, describe the exercise price being lower than the fair market price of the stock on the day of the grant. Backdating is the act of changing the grant date to an earlier date so that the exercise price is lower than the fair market stock price on the day of the proper grant. Backdating can occur either at the time the grant is written, or retroactively after the grant is written.

If I have adequately explained this, the affect is apparent: recipients of backdated options stand to gain more money that was originally granted; that is, between the lower backdated price and the higher grant date price.

Backdating in-and-of-itself is not illegal. Backdating is legal when done with board authorization, in full disclosure, and in compliance with applicable accounting and tax provisions. And there’s the hiccup … or the dozen different hiccups. For example, as regards taxes: at-the-money stock options are considered performance-based. Performance-based awards do not count towards a corporation’s one million dollar executive compensation deduction cap under IRS Code § 162(m). In-the-money options, on the other hand, are not considered performance-based as specifically regards the difference between the low exercise price and the higher fair market price of the stock on the day of the grant. That difference in price, then, counts towards the one million dollar deduction under § 162(m). The rub: corporations may have taken full deductions on amounts that should have been limited.

After the jump: GAAP and SOX hiccups discussed.

Another frequent example of where backdating may go wrong is in regards to financial statements represented as “GAAP compliant.” To be so compliant, a corporation must record in-the-money stock options as a compensation expense. The expensed amount is, again, the difference between the lower price of the stock on the day the option is exercised and the higher fair market price of the stock on the day it was properly granted. If this expense was not properly recorded during the financial period it was incurred, a corporation may need to restate its financial statements. Uber problematic: options are accounted for over the course of their vesting period, which typically entails a period of several years. This translates into multiple restatements to accommodate that same several year period.

Also the subject of possible fraud allegations: SOX compliance and the Compensation Discussion & Analysis (“CD&A”). The CD&A requires the corporation to publicly articulate in detail executive compensation packages; objectives to meet, elements used to incentivize performance. It will include information, such as the exercise date that stock option grants are given. Backdating a grant to an earlier exercise date would obviously alter this information. Keep in mind the CD&A is filed with the SEC, and therefore subject to both the ’33 and ’34 Acts. It is also shared publicly via the corporation's proxy statement.

FWIW – happy starter primer. Sls.


Photo credit: Irving Underhill.

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BofA for the Day: Congressional Committee Investigation, and Separately, Shareholder Class Action

How much would it suck to be a director for BofA right now? Apart from the continued dispute over the award of 2008 Merrill bonuses, BofA is also facing Congressional Committee requests for documents and a shareholder class action. All involve the same “was it worth it” or “could this be over already” 2008 acquisition of Merrill Lynch. (Stef emphasis). Specifically, the issue is Merrill losses in the fourth quarter of 2008. Merrill sustained consistent losses over the course of the first three quarters of 2008. The losses in the fourth quarter, however, were substantially higher. Documents suggest that BofA executives anticipated the fourth quarter substantial losses and did not inform BofA shareholders prior to the merger vote. Congress wants to know more and the shareholders want a payout.

As regards Congress: Ed Towns (D – NY), Chairman of the House Committee on Oversight and Reform, has requested additional documents from BofA related to Merrill’s 2008 fourth quarter loss, and as regards federal bailout money BofA received. Separately, Committee Member Dennis Kucinich (D - OH) has asked the SEC to launch an investigation into the same matter.

Shareholder Class Action: shareholders have filed suit against BofA (as well as Ken Lewis and John Thain) alleging the BofA proxy statement failed to disclose the Merrill 2008 fourth quarter losses prior to the merger vote.

Hat tip: Sue Reisinger at Law.com.

Feinberg Update: DEADLINE TODAY for receipt of executive compensation proposals

Seven of the largest recipients of federal aid in the last calendar year - AIG, BofA, Citigroup, GM, GMAC, Chrysler, Chrysler Financial - are required to submit compensation proposals to Compensation Czar Feinberg by today. Some have already submitted their proposals. The proposals detail how the companies intend to pay their highest paid executives: specifically regarding the 25 highest earners, and formulaicly regarding the next 75 highest earners. Allen has written about Feinberg and his objectives here. I want to briefly write now on how this deadline will shake out and what steps are ahead.

Feinberg, and by proxy the Obama Administration, effectively has a veto power here. Feinberg is expected to negotiate with the companies over a period of 60 days, but he will either accept or reject the proposals at the end of that period. It is important to note that Feinberg cannot relieve the companies of performance under executory compensation contracts entered into prior to enactment of TARP. Those watching the progression of events expect, at most, Feinberg to push for pay that is in some way related to company performance, and equity compensation in the form of restricted stock grants.

Eye Candy Note: NYAG Cuomo detailed the cash flow of some of these seven in his July Report. Summarized here:

• BofA received $ 75 billion in federal aid, earned $ 4 billion in 2008, and awarded $ 3.33 billion in cash and equity bonuses (for period 2008).
• Citigroup received $ 65 billion in federal aid, loss $ 27.7 billion in 2008, and awarded $ 5.33 billion in cash and equity bonuses (for period 2008).

Of uber interest: folks are not sure if these compensation proposals will be made public, and if they will be, at what date. White House Press Secretary Robert Gibbs expressed uncertainty yesterday, suspecting that although Feinberg's decisions will be made public, the proposals may not be.

FYI: Feinberg's work as Compensation Czar is pro bono.