Category: Corporate law

Judge Rules in Favor of DOJ Finding Bazaarvoice / PowerReviews Merger Anticompetitive (Department of Justice)

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On January 8, 2014, Judge Orrick of the Northern District of California ruled that Bazaarvoice’s acquisition of competitor PowerReviews violated Section 7 of the Clayton Act.  The ruling was in favor of the U.S. Department of Justice (DOJ).  The public version of the opinion was made available on January 10.  In its self-described “necessarily lengthy opinion,” which spans 141 pages, the court ultimately found that the facts overwhelmingly showed the acquisition will have anticompetitive effects and that Bazaarvoice did not overcome the government’s prima facie case.  The case included 40 witnesses at trial, more than 100 depositions and 980 exhibits.  Dr. Carl Shapiro testified as DOJ’s economist and Dr. Ramsey Shehadeh testified on behalf of Bazaarvoice/PowerReviews.  The court noted that the case presented some difficult issues, including that there were no generally accepted “market share statistics covering the sales of R&R solutions or social commerce solutions and no perfect way to measure market shares.”  And while neither side presented flawless analyses, the court found Dr. Shapiro’s approaches more persuasive than those of Dr. Shehadeh.

Bazaarvoice and PowerReviews each offered sophisticated “R&R platforms.”  R&R platforms provide a user interface and review form for the collection and display of user-generated content (i.e., user reviews) on the product page of a commercial website where the product can be purchased.  Often these are in the form of star ratings and open-ended reviews in a text box.  R&R platforms increase sales for the retailer and have a variety of different features.  The court noted that many on-ine retailers view an R&R platform as “necessary.”  Before the merger, Bazaarvoice and PowerReviews offered similar products and features and targeted similar customers.

The court found that the relevant product market was the narrow “R&R platforms,” rather than the broader “social commerce tools” or “eCommerce platforms.”  The court went through many popular social media platforms such as Facebook, Google+, Twitter, Instagram, and Pinterest, explaining why each was not a substitute for these R&R platforms.  In this relevant market, the court found that PowerReviews was Bazaarvoice’s only real competitor, and thus the merger “would eliminate Bazaarvoice’s only meaningful commercial competitor.”

At the end of the opinion, the court commented on the role of antitrust “in rapidly changing high-tech markets.”  It noted that there is a debate as to whether antitrust is properly suited to assess competitive effects in these markets.  The court declined to take sides and stated that its “mission is to assess the alleged antitrust violations presented, irrespective of the dynamism of the market at issue.”

The case now moves to the remedy phase.  In its complaint, the DOJ requested that the court order Bazaarvoice to divest assets originally possessed by either Bazaarvoice and/or PowerReviews to create a viable, competing business.   However, as Judge Orrick noted, 18 months after the merger, it may not be so simple to divest assets.  The judge scheduled a conference for January 22 with the parties to discuss a possible remedy.

There are several lessons to be gathered from this case.  First, the Bazaarvoice litigation is further evidence that the antitrust agencies are not shy about litigating mergers they feel are anticompetitive.  The DOJ invested significant resources and time – including three full weeks at trial in California – into litigating the case, beginning with its investigation that it launched two days after the firms closed their transaction on June 12, 2012.  It has established a significant record of bringing, and winning, merger cases.

Second, this is a significant event, having a federal district court evaluate a consummated merger transaction.  While the agencies have challenged many non-reportable transactions, almost all have been resolved by consent order, or litigated through the Federal Trade Commission’s (FTC’s) in-house administrative hearing process (where, not surprisingly, the FTC essentially always wins).  Accordingly, parties to a non-reportable transaction that raises significant antitrust risks should expect the agencies to investigate and, if warranted, litigate.

Third, the Court heavily discounted Bazaarvoice’s arguments regarding lack of any actual anticompetitive effect, because the companies knew the DOJ was reviewing the deal and could moderate their behavior.  The court discounted Bazaarvoice’s arguments that none of the 104 customers who were deposed complained that the merger has hurt them.  The court stated “it would be a mistake to rely on customer testimony about effects of the merger for several reasons.”  Among the reasons the court included was “Bazaarvoice’s business conduct after the merger was likely tempered by the government’s immediate investigation; the customers were not privy to most of the evidence presented to the Court, including that of the economic experts; many of the customers had paid little or no attention to the merger; and each had an idiosyncratic understanding of R&R based on the priorities of their company and their different levels of knowledge, sophistication, and experience.”  Thus, while raising prices after a transaction provides strong evidence to support the government’s case, the lack of a price increase does not necessarily support the merging parties’ defense.

Finally, and perhaps most importantly, the case shows the need to be circumspect in preparing ordinary course documents.  Aside from the fact that in reportable transactions, the DOJ and FTC are entitled to “4(c)” and “4(d)” documents about the transaction, once a second request is issued or discovery begins, documents created in the ordinary course of business are discoverable.  This includes Strengths, Weaknesses, Opportunities and Threats (SWOT) analyses, board meeting minutes, business and strategic plans, market and market share analyses, and competitive assessments.  In this case, the court found the ordinary course documents, and particularly those made by the companies’ executives, some of the most persuasive evidence.  The court quoted extensively from the documents and cited numerous documents from Bazaarvoice and PowerReviews that showed that the parties viewed each other as their primary competitor, that there were no other strong competitors in this market, that the two companies operated in essentially a duopoly, and that the intent of the merger was to eliminate a primary competitor.  Despite the parties’ efforts to explain away these documents, the court was not persuaded.  Thus, it is important that companies carefully consider what to include in documents and e-mails, and assume that any non-privileged material may be discovered.

The agencies’ aggressive pursuit of perceived anticompetitive, non-reportable transactions places a premium on parties’ evaluating the antitrust risk.

The public version of the court’s opinion can be found here:http://www.justice.gov/atr/cases/f302900/302948.pdf

Article by:

Carrie G. Amezcua

Of:

McDermott Will & Emery

*Exclusive Early Bird Discount* Inside Counsel 14th Annual Super Conference – May 12-14, 2013

The National Law Review is pleased to bring you information about the upcoming Inside Counsel Super Conference.

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When 

Monday, May 12 – Wednesday, May 14, 2014

Where

Chicago, IL

Now celebrating its 14th year, InsideCounsel’s SuperConference is an exclusive corporate legal
conference attracting more than 500 senior level in-house counsels from Fortune-1000 and multi-national companies. The three-day event offers opportunities to showcase your firm’s industry knowledge and thought leadership while interacting with GC’s and other senior corporate counsel during exclusive networking and educational opportunities. The conference agenda offers the perfect blend of experts and national figure heads from some of the nation’s largest corporations, top law firms, government and regulatory leaders, and industry trailblazers. The conference agenda and educational program receives consistent high marks.

No longer just providing legal counsel, in-house attorneys have become strategic business partners within their companies. They not only need to be influential in the boardroom, but must demonstrate the ability to make strategic decisions on both commercial and legal analysis. At the annual InsideCounsel SuperConference, you will:

  • Elevate your legal knowledge 
  • Create innovation within your legal department 
  • Change and evolve to become a better strategic partner

Inside Counsel 14th Annual Super Conference – May 12-14, 2013 *Early bird special*

The National Law Review is pleased to bring you information about the upcoming Inside Counsel Super Conference.

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REGISTER BY 12/31/13 FOR AN EXCLUSIVE NLR Early Bird Discount!

When 

Monday, May 12 – Wednesday, May 14, 2014

Where

Chicago, IL

Now celebrating its 14th year, InsideCounsel’s SuperConference is an exclusive corporate legal
conference attracting more than 500 senior level in-house counsels from Fortune-1000 and multi-national companies. The three-day event offers opportunities to showcase your firm’s industry knowledge and thought leadership while interacting with GC’s and other senior corporate counsel during exclusive networking and educational opportunities. The conference agenda offers the perfect blend of experts and national figure heads from some of the nation’s largest corporations, top law firms, government and regulatory leaders, and industry trailblazers. The conference agenda and educational program receives consistent high marks.

No longer just providing legal counsel, in-house attorneys have become strategic business partners within their companies. They not only need to be influential in the boardroom, but must demonstrate the ability to make strategic decisions on both commercial and legal analysis. At the annual InsideCounsel SuperConference, you will:

  • Elevate your legal knowledge
  • Create innovation within your legal department
  • Change and evolve to become a better strategic partner

Inside Counsel 14th Annual Super Conference – May 12-14, 2013 *Early bird special*

The National Law Review is pleased to bring you information about the upcoming Inside Counsel Super Conference.

250X250-copy

 

REGISTER BY 12/31/13 FOR AN EXCLUSIVE NLR Early Bird Discount!

 

When 

Monday, May 12 – Wednesday, May 14, 2014

Where

Chicago, IL

Now celebrating its 14th year, InsideCounsel’s SuperConference is an exclusive corporate legal
conference attracting more than 500 senior level in-house counsels from Fortune-1000 and multi-national companies. The three-day event offers opportunities to showcase your firm’s industry knowledge and thought leadership while interacting with GC’s and other senior corporate counsel during exclusive networking and educational opportunities. The conference agenda offers the perfect blend of experts and national figure heads from some of the nation’s largest corporations, top law firms, government and regulatory leaders, and industry trailblazers. The conference agenda and educational program receives consistent high marks.

No longer just providing legal counsel, in-house attorneys have become strategic business partners within their companies. They not only need to be influential in the boardroom, but must demonstrate the ability to make strategic decisions on both commercial and legal analysis. At the annual InsideCounsel SuperConference, you will:

  • Elevate your legal knowledge
  • Create innovation within your legal department
  • Change and evolve to become a better strategic partner

Business and Economic Incentives Primer

Womble Carlyle

Competition among jurisdictions to recruit and retain companies is intense. To attract business to their communities, both state and local governmental authorities will often offer discretionary economic incentives for projects that generate substantial tax revenues or create significant employment opportunities. Companies requiring new or larger facilities or facing lease expirations for their existing operations should assess whether they might qualify for an “incentives package” from the various jurisdictions they are considering for their projects. The potential benefits will typically vary depending upon the project’s key capital expenditures, job creation potential and the company’s corresponding wage parameters and associated commitments. Companies with potentially qualifying projects should evaluate how to best leverage their unique strengths to negotiate all available incentive benefits and to maximize those benefits once they are secured.

Business and economic incentives are the tax, cash and in-kind benefits offered by state and local governments to induce a company to relocate to a new community or remain in its existing jurisdiction primarily to create or retain jobs and increase tax revenue. Incentives help businesses mitigate upfront capital and ongoing operating costs for its required projects. Tax incentives include a variety of income and sales/use tax credits, exemptions, reductions and abatements. These can also include other tax-related investment incentives, such as investment and tax credits, research and development tax incentives, and accelerated depreciation of industrial equipment. The Enterprise Zone (EZ), a special kind of tax incentive program (also known as Empowerment Zones and Empowerment Communities), has been used by the federal government and even more widely by many states.

Cash incentives include monetary grants, reimbursements of transportation or infrastructure costs and other financial incentives including alternative financing subsidies. One of the most common benefits in this category is the Industrial Development Bond (IDB) that is used by jurisdictions to offer low-interest loans to firms. A variation on the IDB is the Tax Increment Financing (TIF) districts that are used by many states. A TIF allows governments to float bonds to help companies based on their anticipated future tax impact. In-kind incentives include expedited permitting by the state, county and local municipality and customized worker training programs. Some jurisdictions also offer other in-kind benefits such as watered-down environmental regulations and “right to work” laws that inhibit union organizing. Some states also have federal grant monies they are empowered to allocate towards different programs and projects depending on a project’s possible “public” infrastructure needs and other specific criteria.

In offering incentives, cities and counties are typically driven more by investments that increase the tax base while states focus more on jobs that pay above average wages. Some jurisdictions will provide incentives only for manufacturing projects or for specific statutory lists of facilities such as manufacturing, distribution facilities, air cargo hubs, multimodal facilities, headquarters facilities and data centers. Other states will not provide incentives for retail or hospitality facilities. In general, cities and counties have more flexibility than states in the kinds of projects for which they will provide incentives. Some states have wage tests and require that health care insurance and benefits be provided at the employer’s cost or that at least a portion of the cost be subsidized.

Whether for a corporate expansion or relocation, it is critical for a company to initiate its incentive identification and negotiation efforts early in the site-selection process for its project. Specifically, to achieve the greatest negotiating leverage, a company should begin the pursuit of economic incentives at the same time it is are undertaking its site selection efforts, since it is at this point in the process that competition readily exists between the cities, counties and/or states interested in enticing the company to relocate or remain in their jurisdictions. Since the success of this process is, in part, dependent upon “competing” the relevant state and local jurisdictions, it is important for a company to make it clear to all who are acting for the company that no decision or no public announcement may be made about the company’s plans until the company has evaluated all relevant factors.

To begin the process, a company should form a project team that will work with various economic development representatives from the relevant jurisdictions to achieve the optimal incentives package. The project team should develop a formal incentives negotiation strategy that would include some if not all of the following components:

  • Identifying and analyzing all incentive opportunities available for the project.
  • Determining the company’s short and long term capital and operating costs as well as job creation estimates.
  • Preparing a preliminary “incentives” pro forma.
  • Outlining the plan for securing the incentives and evaluating the related commitments that will be necessary from the company.
  • Identifying and integrating important components of the company’s corporate culture into the negotiation requests and strategy.
  • Determining the essential needs of the project to be included as the non-negotiable points of the company’s business case.
  • Defining the “business case” for why a jurisdiction would benefit from the company’s relocation to that state/county, such as tax (income and sales) revenues to be generated and the jobs to be created by the company.
  • Identifying how to formulate the most productive partnership between the company and the community.
  • Determining how to work creatively within the state and local framework.
  • Considering the use of a third party economic impact study to create an effective business case showing the jurisdiction how to fund the incentives.

A company that is well positioned to benefit from business and economic incentives should engage a seasoned professional who has a successful track record in achieving incentive benefits from the jurisdictions relevant to its business. Working in coordination with the governmental authorities, the right advisor can assist the company in establishing timelines for critical dates, administering applications to secure the incentives, and obtaining formal jurisdictional approvals to ensure compliance is implemented and negotiated incentives are realized. The advisor will also participate, as requested, in presentations for internal and governmental board approval and provide ongoing information and updates to the company during key phases of the incentive pursuit process.

After the final incentives package has been negotiated, the company and the jurisdiction will prepare and negotiate the required incentives agreements and then pursue the formal final governmental approvals. Public relations personnel for the company and the governmental authority are typically involved at this stage to prepare supporting media releases and project announcements. Once all necessary approvals are obtained, the company must establish internal documentation and processes to satisfy the compliance requirements to realize the negotiated incentives, which typically takes the form of a compliance manual.

Business and economic incentives can be valuable tools for a company to reduce costs, increase savings and manage risks as they pursue a signature lease transaction, building acquisition or facility development. To achieve the optimal result, the incentives process must be carefully managed from inception to completion, toward the ultimate goal of creating a meaningful partnership between the company and the community in which the company will conduct its business.

This article originally was published in the August 2013 edition of “Focus on WMACCA,” the newsletter of the Washington Metropolitan Area Corporate Counsel Association. 

This article was written with Scott R. Hoffman with Cushman & Wakefield.

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Investment Management Legal and Regulatory Update – October 2013

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SEC Issues Guidance Update for Investment Companies that Invest in Commodity Interests and Announces New Risk and Examinations Office

The staff of the Division of Investment Management has issued a Guidance Update that summarizes the views of the Division regarding disclosure and compliance matters relevant to funds that invest in commodity interests. The staff also announced the creation of a Risk and Examinations Office within the Division of Investment Management that will accompany the SEC’s Office of Compliance Inspections and Examinations (OCIE) on exam visits.

Disclosure of Derivatives and Associated Risks. Any principal investment strategies disclosure related to derivatives should be tailored specifically to how a fund expects to be managed and should address those strategies that the fund expects to be the most important means of achieving its objectives and that it also anticipates will have a significant effect on its performance. In determining the appropriate disclosure, a fund should consider the degree of economic exposure the derivatives create, in addition to the amount invested in the derivatives strategy. This disclosure also should describe the purpose that the derivatives are intended to serve in the portfolio (e.g., hedging, speculation, or as a substitute for investing in conventional securities), and the extent to which derivatives are expected to be used. Additionally, the disclosure concerning the principal risks of the fund should similarly be tailored to the types of derivatives used by the fund, the extent of their use, and the purpose for using derivatives transactions.

Prior Performance Presentation. A newly registered fund that invests in commodity interests and that includes in its registration statement information concerning the performance of private accounts or other funds managed by the fund’s adviser is responsible for ensuring that such information is not materially misleading. Specifically, a fund that includes the performance of other funds or private accounts should generally include the performance of all other funds and private accounts that have investment objectives, policies, and strategies substantially similar to those of the fund.

Legend Requirement. Rule 481 under the Securities Act requires a fund to provide a legend on the outside front cover page that indicates that the SEC has not approved or disapproved of the securities or passed upon the accuracy or adequacy of the disclosure in the prospectus and that any contrary representation is a criminal offense. The staff will not object if a fund that invests in commodity interests includes in the legend language that also indicates that the CFTC has not approved or disapproved of the securities or passed upon the accuracy or adequacy of the disclosure in the prospectus.

Compliance and Risk Management. Day-to-day responsibility for managing a fund’s portfolio, including any commodity interests and their associated risks, rests with the fund’s investment adviser. In addition, the fund’s board generally oversees the adviser’s risk management activities as part of the board’s oversight of the adviser’s management of the fund. The staff expects that funds and their advisers would adopt policies and procedures that address, among other things, consistency of fund portfolio management with disclosed investment objectives and policies, strategies, and risks.

Each fund should have in place policies and procedures that are sufficient to address the accuracy of disclosures made about the fund’s use of derivatives, including commodity interests, and associated risks, as well as consistency of the fund’s investments in these derivatives with the fund’s investment objectives. For example, these policies and procedures should be reasonably designed to prevent material misstatements about a fund’s use of derivatives, including commodity interests, and the associated risks.

New Risk and Examinations Office. The update notes that a Risk and Examinations Office has recently been created within the Division of Investment Management to analyze and monitor the risk management activities of investment advisers, investment companies, the investment management industry and new products. The group will work closely with OCIE to make onsite visits to investment management firms.

Source: SEC Division of Investment Management Guidance, August 2013, 2013-05.

SEC Approves Registration Rules for Municipal Advisors

State and local governments that issue municipal bonds frequently rely on advisors to help them decide how and when to issue the securities and how to invest proceeds from the sales. Prior to passage of the Dodd-Frank Act in 2010, municipal advisors were not required to register with the SEC. This left many municipalities relying on advice from unregulated advisors. After the Dodd-Frank Act became law, the SEC established a temporary registration regime for municipal advisors that prohibited any municipal advisor from providing advice to, or soliciting, municipal entities or other covered persons without being registered. More than 1,100 municipal advisors have since registered with the SEC. The SEC recently adopted final rules that establish a permanent registration regime for municipal advisors.

Registered municipal advisors will also likely be subject to additional new regulation from the Municipal Securities Rulemaking Board (MSRB). In September 2011, the MSRB withdrew several rule proposals pertaining to municipal advisors pending adoption by the SEC of a permanent registration regime for municipal advisors. Among the proposals was a rule regulating political contributions by municipal advisors. The MSRB had previously indicated that it would resubmit the withdrawn rule proposals once a final definition of the term “municipal advisor” was adopted by the SEC.

Proposed Rule

In 2010, the SEC proposed a rule governing the permanent registration process. The proposal defined “municipal advisor” broadly and would have required municipal advisor registration of appointed board members of municipalities and people providing investment advice on all public funds. The SEC received more than 1,000 comment letters on the proposal, most of which raised concerns about the broad reach of the proposal.

Final Rule

The final rule requires a municipal advisor to register with the SEC if it:

  • provides advice on the issuance of municipal securities or about certain “investment strategies” or municipal derivatives; or
  • undertakes a solicitation of a municipal entity or obligated person.

The rule clarifies who is and is not a “municipal advisor” and offers guidance on when a person is providing “advice” for purposes of the municipal advisor definition. The rule exempts employees and appointed officials of municipal entities from registration and limits the type of “investment strategies” that will result in municipal advisor status. Additionally, instead of the proposed approach that would have required individuals associated with registered municipal advisory firms to register separately, the final rule requires firms to furnish information about these individuals.

Defined Terms

Advice. A person is providing “advice” to a municipal entity or an “obligated person” based on all of the relevant facts and circumstances, including whether the advice:

  • involves a recommendation to a municipal entity;
  • is particularized to the specific needs of a municipal entity; or
  • relates to municipal financial products or the issuance of municipal securities.

Advice, however, does not include providing certain general information.

An “obligated person” is an entity such as a non-profit university or non-profit hospital that borrows the proceeds from a municipal securities offering and is obligated by contract or other arrangement to repay all or some portion of the amount borrowed.

Investment Strategies. A person providing advice to a municipal entity or an “obligated person” with respect to “investment strategies” only has to register if such advice relates to:

  • the investment of proceeds of municipal securities;
  • the investment of municipal escrow funds; or
  • municipal derivatives.

Exemptions from the Municipal Advisor Definition

The following persons conducting the specified activities would not be required to register as a municipal advisor:

Registered Investment Advisers. Registered investment advisers and associated persons do not have to register if they provide investment advice in their capacities as registered investment advisers, such as providing advice regarding the investment of the proceeds of municipal securities or municipal escrow investments.

This exemption does not apply to advice on the structure, timing, and terms of issues of municipal securities or municipal derivatives. The SEC considers advice in these areas as outside the focus of investment adviser regulation.

Independent Registered Municipal Advisor. Persons who provide advice in circumstances in which a municipal entity has an independent registered municipal advisor with respect to the same aspects of a municipal financial product or issuance of municipal securities do not have to register, provided that certain requirements are met and certain disclosures are made.

Banks. Banks do not have to register to the extent they provide advice on certain identified banking products and services, such as investments held in deposit accounts, extensions of credit, funds held in a sweep account or investments made by a bank acting in the capacity of bond indenture trustee or similar capacity.

This exemption does not apply to banks that engage in other municipal advisory activities, such as providing advice on the issuance of municipal securities or municipal derivatives, in part because municipal derivatives were a source of significant losses by municipalities in the financial crisis.

Underwriters. Brokers, dealers and municipal securities dealers serving as underwriters do not have to register if their advisory activities involve the structure, timing and terms of a particular issue of municipal securities.

Registered Commodity Trading Advisor. Registered commodity trading advisors and their associated persons do not have to register if the advice they provide relates to swaps.

Swap Dealers. Registered swap dealers do not have to register as municipal advisors if they provide advice with respect to swaps in circumstances in which a municipal entity is represented by an independent advisor.

Public Officials and Employees. Public officials do not have to register to the extent that they are acting within the scope of their official capacity. This exemption addresses an unintended consequence of the proposed rule that generated significant public comment and created the impression that public officials and municipal employees would be covered if they provided “internal” advice.

This exemption covers persons serving as members of a governing body, an advisory board, a committee, or acting in a similar official capacity as an official of a municipal entity or an obligated person. For instance, it covers:

  • members of a city council, whether elected or appointed, who act in their official capacity; and
  • members of a board of trustees of a public or private non-profit university acting in their official capacity, where the university is an obligated person by virtue of borrowing proceeds of municipal bonds issued by a state governmental educational authority.

Similarly, this exemption covers employees of a municipal entity or an obligated person to the extent that they act within the scope of their employment.

Attorneys. Attorneys do not have to register if they are providing legal advice or traditional legal services with respect to the issuance of municipal securities or municipal financial products.

This exemption does not apply to advice that is primarily financial in nature or to an attorney representing himself or herself as a financial advisor or financial expert on municipal advisory activities.

Accountants. Accountants do not have to register if they are providing accounting services that include audit or other attest services, preparation of financial statements, or issuance of letters for underwriters.

Registration Forms

The final rule requires municipal advisory firms to file the following through EDGAR:

  • Form MA to register as a municipal advisor; and
  • Form MA-I for each individual associated with the firm who engages in municipal advisory activities.

The temporary registration regime will remain in place until December 31, 2014. The new rule requires municipal advisors to register on a staggered basis beginning July 1, 2014. The expiration date of the temporary rules will be extended in order to allow municipal advisors to continue to remain temporarily registered during the staggered compliance period.

Sources: SEC Approves Registration Rules for Municipal Advisors, SEC Press Release 2013-185 (September 18, 2013); Registration of Municipal Advisors, SEC Release No. 34-70462 (September 18, 2013).

SEC Eliminates the Prohibition on General Solicitation and General Advertising in Certain Private Offerings to Accredited Investors

As we reported in our July Client Alert, the SEC amended Regulation D to implement a Jumpstart Our Business Startups Act (JOBS Act) requirement to lift the ban on general solicitation and general advertising for certain private offerings.

JOBS Act

Congress passed the JOBS Act in 2012, which directed the SEC to remove the prohibition against general solicitation and general advertising for securities offerings relying on Rule 506, provided that sales are limited to accredited investors and an issuer takes reasonable steps to verify that all purchasers are accredited investors.

While issuers will be able to widely solicit and advertise for potential investors, the JOBS Act required the SEC to adopt rules that “require the issuer to take reasonable steps to verify that purchasers of the securities are accredited investors, using such methods as determined by the Commission.” In other words, there is no restriction on who an issuer can solicit, but an issuer faces restrictions on who is permitted to purchase its securities.

Rule 506(c)

The addition of 506(c) to the existing Rule 506 permits issuers, including hedge funds and other private funds, to use general solicitation and general advertising to offer their securities provided that:

  • all purchasers of the securities are accredited investors (as defined in Rule 501);
  • the issuer takes reasonable steps to verify that the investors are accredited investors;
  • all other conditions of the Rule 506 exemption are met; and
  • Form D is completed and the box is checked indicating that Rule 506(c) is being relied upon.

Verification of Accredited Investor Status

Under the new rules, the issuer will need to take reasonable steps to verify that each investor is accredited. Whether the steps taken are “reasonable” will be a principles-based determination by the issuer, in the context of the particular facts and circumstances of each purchaser and transaction. The SEC noted that the issuer should consider the nature of the purchaser and the amount and type of information that the issuer has about the purchaser; the nature of the offering, such as the manner in which the purchaser was solicited to participate in the offering; and the terms of the offering, such as a minimum investment amount.

In response to comments received with respect to the SEC’s original rule proposal, the amendment to Rule 506 also includes a non-exclusive list of methods that issuers may use to verify that purchasers are accredited investors. The methods described in the final rule include the following:

  • Verification of Income. Review IRS forms filed for last two years and obtain a written representation of expected income for the current year.
  • Verification of Net Worth. Review documentation related to assets (bank and brokerage statements, CDs and independent appraisal reports) and liabilities (credit reports).
  • Third Party Verification. Obtain a written confirmation that a person is an accredited investor from a broker-dealer, investment adviser, attorney or CPA.
  • Existing Accredited Security Holder. For any investor who invested in an issuer’s prior Rule 506 offering as an accredited investor and remains an investor, obtain a written certification (at the time of a Rule 506(c) sale) that he or she still qualifies as an accredited investor.

Preservation of Existing Rule

The existing provisions of Rule 506 as a separate exemption are not affected by the final rule. Issuers conducting Rule 506 offerings without the use of general solicitation or general advertising can continue to conduct securities offerings in the same manner and aren’t subject to the new verification rule.

Form D

In connection with these changes, Form D has been amended to require issuers to indicate whether they are relying on 506(c), which permits general solicitation and advertising in a Rule 506 offering.

The rule amendments became effective September 23, 2013.

Sources: SEC Approves JOBS Act Requirement to Lift General Solicitation Ban, Commission Also Adopts Rule to Disqualify Bad Actors from Certain Offerings and Proposes Rules to Enable SEC to Monitor New Market and Bolster Investor Protections, SEC Press Release 2013-124 (July 10, 2013); Eliminating the Prohibition Against General Solicitation and General Advertising in Rule 506 and Rule 144A Offerings, SEC Release No. IA-3624 (July 10, 2013).

SEC Adopts Rule to Disqualify “Bad Actors” from Rule 506 Offerings

The SEC recently approved amendments to Rule 506 to set forth the “bad actor” (commonly known as “bad boy”) provisions that could disqualify issuers from relying on the rule. The Dodd-Frank Act directed the SEC to adopt the amendments in order to prevent issuers from relying on the Rule 506 safe harbor if certain “bad actors” were involved in the offering.

As required by the Dodd-Frank Act, the SEC approved disqualifications under Rule 506 that are substantially similar to the disqualifications found in other securities regulations. Persons covered by the bad boy provisions include: issuers; directors, executive officers, other officers participating in the offering, general partners or managing members of issuers; beneficial owners of 20% or more of the issuer’s voting equity securities; investment managers to an issuer that is a pooled investment fund and directors, executive officers, other officers participating in the offering, general partners or managing members of the investment manager; promoters connected with the issuer; persons compensated for soliciting investors as well as the directors, officers, general partners or managing members of any compensated solicitor. The disqualifying events include:

  • securities-related criminal convictions;
  • securities-related court injunctions and restraining orders;
  • final orders of a state securities commission, state insurance commission, state or federal bank, savings association or credit union regulator or the CFTC barring an individual from association with regulated entities or from engaging in securities, insurance or banking business or finding a violation of any law pertaining to fraudulent, manipulative or deceptive conduct;
  • SEC disciplinary orders relating to brokers, dealers, municipal securities dealers, investment advisers and investment companies and their associated persons;
  • SEC cease-and-desist orders related to violations of certain anti-fraud provisions and registration requirements of the federal securities laws;
  • suspension or expulsion from membership in, or suspension or bar from associating with a member of, a securities self-regulatory organization; and
  • SEC stop orders pertaining to the filing of a registration statement or the suspension of an exemption.

Reasonable Care Exception. Under this exception, an issuer would not lose the benefit of the Rule 506 safe harbor if it can show that it did not know and, in the exercise of reasonable care, could not have known that a covered person with a disqualifying event participated in the offering.

Disclosure of Pre-Existing Disqualifying Events. Disqualification applies only for disqualifying events that occur after September 23, 2013, the effective date of this rule. Matters that existed before the effective date of the rule and would otherwise be disqualifying are subject to a mandatory disclosure requirement to investors.

Sources: SEC Approves JOBS Act Requirement to Lift General Solicitation Ban, Commission Also Adopts Rule to Disqualify Bad Actors from Certain Offerings and Proposes Rules to Enable SEC to Monitor New Market and Bolster Investor Protections, SEC Press Release 2013-124 (July 10, 2013); Disqualification of Felons and Other Bad Actors from Rule 506 Offerings, SEC Release No. 33-9414 (July 10, 2013).

SEC Proposes Amendments to Private Offering Rules (Regulation D and Form D)

In partial response to the many comments that the SEC received with respect to its proposed JOBS Act amendments to Rule 506, the SEC recently proposed the following amendments to the private offering rules.

Advance Notice of Sale. Under the proposal, issuers that intend to engage in general solicitation as part of a Rule 506 offering would be required to file the Form D at least 15 calendar days before engaging in general solicitation for the offering. Also, within 30 days of completing an offering, issuers would be required to update the information contained in the Form D and indicate that the offering has ended.

Additional Information about the Issuer and the Offering. Under the proposal, issuers would be required to provide additional information such as:

  • types of general solicitation used;
  • methods used to verify accredited investor status;
  • publicly available website;
  • controlling persons;
  • industry group;
  • asset size;
  • breakdown of investor types (accredited/non-accredited and natural person/entity) and amounts invested; and
  • breakdown of use of proceeds.

Disqualification. Under the proposal, an issuer would be disqualified from using the Rule 506 exemption in any new offering if the issuer or its affiliates did not comply with the Form D filing requirements in a Rule 506 offering.

Legends and Disclosures. Under the proposal, issuers would be required to include certain legends or cautionary statements in any written general solicitation materials used in a Rule 506 offering. The legends would be intended to inform potential investors that the offering is limited to accredited investors and that certain potential risks may be associated with such offerings.

In addition, if the issuer is a private fund and includes information about past performance in its written general solicitation materials, it would be required to provide additional information in the materials to highlight the limitations on the usefulness of this type of information. The issuer also would need to highlight the difficulty of comparing this information with past performance information of other funds. The proposal also requests public comment on whether other manner and content restrictions should apply to written general solicitation materials used by private funds.

Submission of Written General Solicitation Materials to the SEC. Under the proposal, issuers would be required to submit written general solicitation materials to the SEC through an intake page on the SEC website. Materials submitted in this manner would not be available to the general public. As proposed, this requirement would be temporary, expiring after two years.

Guidance to Private Funds about Misleading Statements. In its current form, Rule 156 under the Securities Act provides guidance on when information in mutual fund sales literature could be fraudulent or misleading for purposes of the federal securities laws. Under the proposal, the rule would be amended to apply to the sales literature of private funds.

Comments on the proposal originally were due on September 23, 2013. However, “in light of the public interest,” the SEC re-opened the comment period until October 30, 2013.

Sources: SEC Approves JOBS Act Requirement to Lift General Solicitation Ban, Commission Also Adopts Rule to Disqualify Bad Actors from Certain Offerings and Proposes Rules to Enable SEC to Monitor New Market and Bolster Investor Protections, SEC Press Release 2013-124 (July 10, 2013); Amendments to Regulation D, Form D and Rule 156, SEC Release No. IC-30595 (July 10, 2013).

SEC Charges Investment Adviser for Misleading Fund Board About Algorithmic Trading Ability

The SEC charged an investment adviser and its former owner for misleading a mutual fund’s board of directors about the firm’s ability to conduct algorithmic currency trading so the board would approve the adviser’s contract to manage the fund.

The case arises out of an initiative by the SEC Enforcement Division’s Asset Management Unit to focus on the “15(c) process” – a reference to Section 15(c) of the Investment Company Act that requires a fund’s board to annually evaluate the fund’s advisory agreements. Advisers must provide the board with truthful information necessary to make that evaluation.

“It is critical that investment advisers provide truthful information to the directors of the registered funds they advise,” said Julie M. Riewe, Co-Chief of SEC Enforcement Division’s Asset Management Unit. “Both boards and advisers have fiduciary duties that must be fulfilled to ensure that a fund’s investors are not harmed.”

The SEC’s Enforcement Division alleged that Chariot Advisors LLC and Elliott L. Shifman misled the fund’s board about the nature, extent, and quality of services that the firm could provide. In two presentations before the board, Shifman misrepresented that his firm would implement the fund’s investment strategy by using a portion of the fund’s assets to engage in algorithmic currency trading. Chariot fund’s initial investment objective was to achieve absolute positive returns in all market cycles by investing approximately 80% of the fund’s assets under management in short-term fixed income securities, and using the remaining 20% to engage in algorithmic currency trading.

According to the SEC’s order instituting administrative proceedings, Chariot Advisors did not have an algorithm capable of conducting such currency trading. This was particularly significant because in the absence of an operating history the directors focused instead on Chariot Advisors’ reliance on models when the board evaluated the advisory contract. Even though Shifman believed that the fund’s currency trading needed to achieve a 25 to 30% return to succeed, Shifman allegedly did not disclose to the board that Chariot Advisors had no algorithm or model capable of achieving such a return.

The SEC alleges that for at least the first two months after the fund was launched, Chariot Advisors did not use an algorithm model to perform the fund’s currency trading as represented to the board, but instead hired an individual trader who was allowed to use discretion on trade selection and execution. According to the order, the trader used a technical analysis, rules-based approach for trading that combined market indicators with her own intuition.

The SEC further alleges that the misconduct by Shifman and Chariot Advisors caused misrepresentations and omissions in the Chariot fund’s registration statement and prospectus filed with the SEC and viewed by investors.

A hearing will be scheduled before an administrative law judge to determine whether the allegations contained in the order are true and whether any remedial sanctions are appropriate.

Sources: SEC Charges North Carolina-Based Investment Adviser for Misleading Fund Board About Algorithmic Trading Ability, SEC Press Release 2013-162 (August 21, 2013); In the Matter of Chariot Advisors, LLC and Elliott L. Shifman, Investment Company Act Release No. 30655 (August 21, 2013).

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Consent Isn’t the Only Consideration: NY Comic Con Attendees Disagree that Hijacking Twitter Accounts Makes the Event “100x cooler! For realz.”

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The comic book industry is no stranger to displays of heroic anger and berserker rage, but over the weekend New York Comic Con (NYCC) was on the receiving end of considerable fan fury after it began ghostwriting effusive tweets about NYCC and posting on the Twitter pages of NYCC attendees in a way that made it appear as though the attendee was the author of the tweet.

During the event registration process, NYCC attendees were given the option of linking RFID badges to their Twitter account through the event’s mobile application interface.  During the application registration process, attendees were asked to authorize NYCC to access their Twitter accounts.  At this point, attendees arguably consented to having NYCC impersonate the attendee when posting about NYCC on the attendee’s Twitter feed.

The NYCC website page explaining the ID badge technology and the site’s registration page did not mention that NYCC would be posting to attendee Twitter pages on the attendee’s behalf.  Rather, the registration process is explained as a method for giving the attendee access to enhanced social media content, while helping NYCC protect against fraudulent credentials.  The activation terms provided that NYCC could use the information collected through the badge “for internal purposes” and to contact the user about future events.  After a user registered his or her badge and elected to link a Twitter account, the user was presented with an opt-in notice (a screenshot of which can be seenhere), specifying that following authorization, the application would be able to, among other things, “post Tweets for you”.  This type of warning is not uncommon.  For example, any website that allows users to click to share news articles or stories on their Twitter pages requires this type of access.

In spite of the opt-in warning, the wide-spread surprise among attendees suggests that the opt-in language did not draw a clear distinction between posting tweets for a user and posting tweets as a user.  Moreover, the failure to mention this practice when explaining the registration process could have led attendees to conclude that even if they were agreeing to provide this type of access, NYCC would not be taking the unusual step of pretending to be the attendee when it published tweets on the user’s page.

NYCC’s initial response was a brief tweet telling attendees not to “fret” over the ghostwritten posts and informing attendees that the “opt-in feature” had been disabled.  However, after anger continued to spread, NYCC issued a longer statement apologizing for any “perceived overstep.”

This type of disconnect between online service providers and users is becoming increasingly common as advances in technology permit mobile device and social media data to be accessed and used in new ways.  Earlier this year, for example, Jay-Z and Samsung stepped into a public relations debacle when the “JAY Z Magna Carta” mobile application required that the user, in exchange for receiving a free music download, authorize the application to have extensive access to phone data and social media accounts. The response from NYCC attendees also underscores the lesson learned by Googleearlier this month, that consent provided by users who do not fully understand what they are consenting to may not be consent at all.

As your online business finds new and innovative ways to deliver products and services to your users, it is important to take a step back and consider whether additional communications in different formats, such as just-in-time notifications, are necessary to ensure that the only surprise your customers have is how great your products and services are.   Or, to put it another way, “with great power comes great responsibility.”

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New SEC Rule Helps Entrepreneurs Raise Capital

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Start-ups, small businesses, venture capi- talists and hedge funds can for the first time in 80 years begin openly advertising to raise money in private offerings. The change by the Securities and Exchange Commission is part of the JOBS Act requirement to amend Rule 506 of Regulation D to permit general solicitation. While opening the gates for general solicitation, the SEC has simultaneously tightened rules to protect investors.

Prior to the new rules that be- came effective Sept. 23, companies seeking to sell securities to raise capital had to either register the offerings or qualify for exemptions from registration. The costs and complexities of public offerings often were beyond the reach of many small businesses. The new public solicitation rules make it possible for startups, small businesses, venture capitalists and hedge funds to search for investors via the internet, newspaper and other ads, social media and other general solicitation methodologies — previously forbidden territory. At the same time, they avoid the challenges and costs that come with the full registration process.

The new rules are complex, and ensuring compliance will invariably require advice from securities lawyers and investment bankers who can help companies raise capital safely. This includes ensuring they qualify for the traditional exemption or are in the “safe harbor” of the new rule. While this involves cost and time commitments, the new avenues for fund raising are still less complex and ex- pensive than traditional registered offerings. For example, offerings under the original Rule 506 exemption (now retained as a Rule 506(b) offering) allowed companies to raise an un- limited amount of capital from an unlimited number of accredited investors, but not from more than 35 nonaccredited investors. The new alternative, Rule 506(c), allows companies to generally solicit potential investors, gaining access to wider au- diences through solicitation and advertising methods previously unavailable – good news for startups and small companies.

Other changes require issuers to provide ad- ditional information about the 506(c) offerings and require companies using the new rule to take “reasonable steps” to ensure every inves- tor is qualified. The definition of a “reasonable step” is not clear under the new rule. It will take time to fully understand what the SEC views as a “reasonable step.” Practitioners will want issu- ers to document in their files that the companies did more than just take the investors’ word that the investors are accredited. It is generally understood that tax returns, certifications from tax accountants, review of bank account statements or other independent confirming information about potential investors will suffice to meet the “reasonable steps” standard.

Another change imposed by the new rules: a “bad actor” disqualification. This means issuers and other market participants will be disquali- fied from relying on Rule 506 when felons or other bad actors participate in Rule 506 offerings. As part of the adoption of these new rules, the SEC also voted to issue new companion rules containing stronger investor protections. Theseinclude requiring entrepreneurs who take advantage of the new general solicitation rules to (i) provide additional information about their capital raising offerings, (ii) provide more information about the in- vestors who are participating in the offerings, and (iii) require companies to file Form D with the SEC at least 15 calendar days before engaging in general solicitation and within 30 days of completing the offerings to update the informa- tion contained in the Form D and indicate that the offerings have ended.

Although it remains to be seen whether these rules will make it easier for entrepreneurs to raise money, the new rule changes will certainly allow companies to reach more potential inves- tors in a more cost-effective manner. If handled properly, entrepreneurs should have a powerful new vehicle at their disposal to support the de- velopment and growth of their companies.

This article was previously publsihed in Daily Business Review.

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Lawsuits Against Creditors of NewPage

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The trustee for the litigation trust resulting from the NewPage Corporation bankruptcy has launched nearly 800 lawsuits against pre-bankruptcy creditors of NewPage Corporation seeking payment to the trust.

The lawsuits (also called adversary proceedings) have been filed in Delaware bankruptcy court by litigation trustee Pirinate Consulting Group LLC to recover allegedly preferential payments made in the months prior to the company’s Chapter 11 bankruptcy filing in September, 2011.

Much to the surprise of many who did business with the debtor prior to the bankruptcy filing, not only are they waiting for payment on amounts owed, but they will now face claims that they must give back monies previously received.

Defendants should know there are often defenses to these claims, including that the allegedly preferential payments were made in the ordinary course of business or that additional goods were shipped after those allegedly preferential payments were received. Upon receipt of a complaint, defendants should contact counsel knowledgeable about bankruptcy avoidance actions for assistance. Failure to respond to the adversary proceeding complaint in a timely manner, can result in a judgment and collection efforts by the litigation trustee.

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Former Head of Investor Relations Penalized by SEC for Selectively Disclosing Material Nonpublic Information, While Self-Disclosing Company Escapes Charges

Katten Muchin

The selective and early disclosure of material non-public information resulted in a Securities and Exchange Commission cease and desist order and civil penalties against the former head of investor relations at First Solar, Inc. (First Solar or the Company), an Arizona-based solar energy company. The SEC determined that Lawrence D. Polizzotto violated Section 13(a) of the Securities Exchange Act of 1934 and Regulation FD by informing certain analysts and investors ahead of the market that First Solar would likely not receive an important and much anticipated loan guarantee commitment of nearly $2 billion from the US Department of Energy (DOE). The day after those disclosures, the Company publicly disclosed this information in a press release, causing its stock price to dip six percent.

On September 13, 2011, First Solar’s then-CEO publicly expressed confidence at an investor conference that the Company would receive three loan guarantees of close to $4.5 billion, which the DOE previously committed to granting upon satisfaction of certain conditions. Polizzotto and several other First Solar executives learned a couple of days later that the Company would not receive the largest of the three guarantees. An in-house lawyer expressly advised a group of First Solar employees, including Polizzotto, that they could not answer questions from analysts and investors until the Company both received official notice from the DOE and issued a press release or posted an update on the guarantee to its website. According to the SEC, notwithstanding this instruction, Polizzotto and a subordinate, acting at Polizzotto’s direction, had one-on-one phone conversations with approximately 30 sell-side analysts and institutional investors prior to First Solar’s public disclosure. In the conversations, they conveyed the low probability that First Solar would receive one of the three guarantees. In some instances, Polizzotto went further and said that a conservative investor should assume that the guarantee would not be granted.

Polizzotto agreed to pay $50,000 to settle the charges without admitting or denying any of the SEC’s findings. He, however, was not subject to even a temporary industry bar. The SEC did not bring an enforcement action against First Solar due to the Company’s cooperation with the investigation, as well as its self-disclosure to the SEC promptly after discovering Polizzotto’s selective disclosure. In addition, the SEC emphasized the strong “environment of compliance” at the Company, including the “use of a disclosure committee that focused on compliance with Regulation FD” and the fact that the Company took remedial measures to address improper conduct, including conducting additional compliance training.

In the Matter of Lawrence D. Polizzotto, File No. 3-15458 (Sept. 6, 2013).