When Someone Steals Your Content

The web is a cut and paste world. Inevitably, someone will steal your blog post content. Rarely is their much you can do about it.

Another compliance blog copied my post on Perspectives on Hedge Fund Registration and plopped it into their blog.

They were lazy and just copied the html, leaving the picture hotlinked to my site. That means I can change the image on them, leaving a message for its readers to see that the publisher is a thief. So I replaced the picture of Paul Kanjroski on my server with a new image.

Thanks to Dominic Jones of IR Web Report for showing me how to do this (its easy).

Here is the result:
Fun games with content thieves

New Custody Rules for Investment Advisers

sec-seal

The Securities and Exchange Commission proposed rule amendments as part of their Open Meeting on May 14, 2009. They talked about the proposed rules, but have not actually made them available. It is hard to judge the potential impact of the rules with being able to see them.

According to the press release and the speech by Mary Schapiro here is a summary of the proposed rules:

  • All registered investment advisers with custody of client assets will undergo an annual “surprise exam” by an independent public accountant to verify those assets exist.
  • If you are an investment advisers whose client assets are not held or controlled by a firm independent of the adviser, you will be required to obtain a SAS-70 report that describes the controls in place, tests the effectiveness of those controls, and provides the results of those tests.
  • You would be required to disclose in public filings with the SEC the identity of the independent public accountant that performs your “surprise exam.”
  • The proposed rules would require that all custodians holding advisory client assets directly deliver custodial statements to the clients instead of through the investment adviser, and that advisers opening custody accounts for clients instruct those clients to compare account statements they receive from the custodian with those received from the adviser.

According to Commissioner Schapiro: “We are taking this action in response to major investment scams — such as Madoff — and many other potential Ponzi schemes.”

Public comments on the proposed rule amendments must be received by the Commission within 60 days after their publication in the Federal Register.

References:

Perspectives on Hedge Fund Registration

paul-kanjorski

On Thursday, May 7, 2009,  the House Subcommittee on Capital Markets, Insurance, and Government Sponsored Enterprises held a hearing on: “Perspectives on Hedge Fund Registration”.

During the hearings on legislation to regulate hedge fund advisers, Rep. Paul Kanjorski said that hedge funds deserve to “continue swimming in the deep end of the pool.” But if hedge funds want to “continue to swim” in the US capital markets, they must, “fill out the forms and get an annual pool pass.”

Rep.  Kanjorski also stated that “Congressmen Capuano and Castle have drafted a good bill to accomplish the goal of registering hedge fund investment advisers.” That sounds like an endorsement of the Hedge Fund Adviser Registration Act.

Webcast:

Opening  Statement:

Witness List & Prepared Testimony:

  • Mr. Todd Groome, Chairman, Alternative Investment Management Association
  • The Honorable Richard H. Baker, President, Managed Funds Association
  • Mr. James S. Chanos, Chairman, Coalition of Private Investment Companies
  • Ms. Orice Williams, Director, Financial Markets and Community Investment Team, Government Accountability Office
  • Mr. Britt Harris, Chief Investment Officer, Teacher Retirement System of Texas

Subprime Lending Settlement in Massachusetts

Attorney General Martha Coakley

Massachusetts Attorney General Martha Coakley’s Office announced that it has reached a settlement agreement with Goldman Sachs & Co stemming from the office’s investigation of subprime lending and securitization markets. The Attorney General’s Office has been investigating the role of investment banks in the origination and securitization of subprime loans in Massachusetts.

The Attorney General’s Office began its investigation into the securitization of subprime loans in December 2007, investigating whether securitizers may have:

  • facilitated the origination of “unfair” loans under Massachusetts law;
  • failed to ascertain whether loans purchased from originators complied with the originators’ stated underwriting guidelines;
  • failed to take sufficient steps to avoid placing problem loans in securitization pools;
  • been aware of allegedly unfair or problem loans;
  • failed to correct inaccurate information in securitization trustee reports concerning repurchases of loans; and
  • failed to make available to potential investors certain information concerning allegedly unfair or problem loans, including information obtained during loan diligence and the pre-securitization process, as well as information concerning their practices in making repurchase claims relating to loans both in and out of securitizations.

The settlement didn’t involve court action and Goldman didn’t acknowledge wrongdoing.

Under the agreement, Goldman will restructure loans for borrowers whose loans it holds. The Attorney General said there are about 714 of those borrowers. Goldman’s borrowers with first mortgages could see their principal reduced 25% to 35%, and those with second mortgages held  could see principal reduced 50% or more. Reducing those loan amounts will cost Goldman $50 million. It has also agreed to have its subsidiary, Litton Loan Servicing LP, help qualified borrowers who are in trouble on their loans to avoid foreclosure. Goldman will also pay the state $10 million. Delinquent borrowers will be required to make a “reasonable monthly payment” while trying to sell or refinance their homes.

References:

Watch Frontline’s “The Madoff Affair” Online

For those of you who missed last night’s airing of “The Madoff Affair” it’s now available online.

The program has a startling interview of Michael Bienes, one of the first people to set up a feeder fund for Madoff. Bienes describes those early years as “easy, easy-peasy, like a money machine.” When asked if he had ever questioned Madoff about his approach, Bienes says: “Never. Why would I ask him? I wouldn’t understand it if he explained it.” Bienes didn’t know how Madoff was doing it. “How do I know? How do you split an atom? I know that you can split them; I don’t know how you do it. How does an airplane fly? I don’t ask.”

My previous assumption was that Madoff started off legitimate and went bad somewhere along the way. Based on the Bienes interview I am rethinking that assumption. It sounds like Madoff went bad very early on, maybe even from the beginning.

You can watch the video below:

There is additional material on the Frontline website for The Madoff Affair:

Whether the Advertising or Solicitation Was General in Nature Under Rule 502(c)

Barnum and Bailey Limited Stock Certificate Earlier, I posted on Fund Raising Publicity. I ended by pointing out that Rule 502(c) prohibits general solicitation or general advertisement that occurs in connection with a Regulation D securities offering. This is to separate typical company advertising if a company advertises with no intention to “offer or sell the securities of the issuer” then such advertising should not violate rule 502(c). Yesterday, I focused on the first part of the analysis is Did Advertising or Solicitation to Offer or Sell Securities Occur?

This post focuses on whether the advertising or solicitation was general in nature.

The S.E.C. has interpreted Rule 502(c) to allow for non-general advertising, meaning advertising in which the issuer and offeree have a “pre-existing, substantive relationship.”

In 1982 the SEC gave no-action relief to a partnership that proposed to mail a written offer to three hundred and thirty people who had previously invested in another limited partnerships from the same sponsor. (Woodtrails -Seattle, No Action Letter, 1982 WL 29366, (Aug. 9, 1982)) The Commission found that these investors had a pre-established relationship with the general partner, who was described to have had a reasonable belief that the offerees were knowledgeable and experienced in financial matters.

In comparison, when a partnership dedicated to boarding, breeding, and training race horses sought to solicit investments by conducting a mailing to the Thoroughbred Owners and Breeders Association members, distributing brochures at a horse sale, and advertising in a horse racing trade journal The Commission did not give relief. Aspen Grove, No-Action Letter, 1982 WL 29706 (Dec. 8, 1982). So related interests alone are not enough to create a substantive relationship.

“The types of relationships with offerees that may be important in establishing a general solicitation has not taken place are those that would enable the issuer (or a person acting on its behalf) to be aware of the financial circumstances or sophistication of the person with whom the relationship exists or that otherwise are of some substance and duration.” Mineral Lands Research & Marketing Corp., S.E.C. No-Action Letter, 1985 WL 55694 (Dec. 4 1985).

The other alternative is the use of a broker-dealer. A broker-dealer may establish a relationship through general advertising or general solicitation, so long as such solicitation does not promote the offer or sale of securities. The broker-dealer can then solicit information from a potential investor to see if they have sufficient financial circumstances or sophistication. “A satisfactory response by a prospective offeree to a questionnaire that provides a broker-dealer with sufficient information to evaluate the respondent’s sophistication and financial situation will establish a substantive relationship.” H.B. Shaine Co., S.E.C. No-Action Letter, 1987 WL 108648 (May 1, 1987). The questionnaire cannot be too general otherwise you won’t be able to determine if the offering would be appropriate in light of the suitability standards established by the issuer . Questionnaires to potential investors must be “generic in nature” and can “not make reference to any specific investment currently offered or contemplated for offering.” Bateman, S.E.C. No Action Letter, 1985 WL 55679 (Dec. 3, 1985).

The consequences of making a general solicitation or general advertisement can be seen an administrative action taken against Kenman Corporation. The SEC found that Kenman violated Section 5 of the Securities Act by engaging in a public offering without registration. Kenman’s offering did not qualify for exemption under Regulation D or Section 4(2) because the SEC determined that Kenman had engaged in general solicitation. They had mailed materials to  a large number of people taken from a list of executive officers of Fortune 500 companies, a list of physicians, a list of company presidents in a certian area and other general lists. Kenman Corp. Administrative Proceeding File No. 3-6505 (Apr. 19, 1985)


The image is Barnum and Bailey Limited Stock Certificate in the public domain and available on Wikimedia Commons.

Advertising or Solicitation to Offer or Sell Securities Under Rule 502(c)

	BirminghamMotorsStock.jpeg  Stock certificate for 10 shares of Birmingham Motors automobile company

Yesterday, I posted on Fund Raising Publicity. I ended by pointing out that Rule 502(c) prohibits general solicitation or general advertisement that occurs in connection with a Regulation D securities offering. This is to separate typical company advertising if a company advertises with no intention to “offer or sell the securities of the issuer” then such advertising should not violate rule 502(c).

The first part of the analysis is Did Advertising or Solicitation to Offer or Sell Securities Occur?

In one example, Printing Enters. Management Science Inc. wanted to engage in promotional activities relating to the products and services that it offered. Since these promotional activities were to occur simultaneously with a private securities offering, the SEC was confronted with the question of whether these marketing activity were intended to facilitate the offer or sale of securities. (Printing Enters. Management Science, Inc., No Action Letter (issued Apr. 25, 1983)).The SEC declined to grant no-action relief stating that it could only evaluate whether the advertisement was in direct support of an offer or sale of securities by evaluating all the specific facts surrounding this promotion.

The SEC expanded the coverage of Rule 502(c) in its Gerstenfeld No-Action letter (Gerstenfeld, No-Action Letter, 1985 WL 55681 (Dec. 3, 1985)), explicitly prohibiting advertisements that occurred even when a private placement was not simultaneously occurring. In Gerstenfeld, a syndicator wished to place an advertisement generally stating that it sells securities, and inviting parties to contact the syndicator for further information. The SEC declined to recommend no-action.The staff concluded that the advertisement constituted a “general” advertisement and was designed to sell securities of entities that are, or will be, affiliated with the syndicator. It did not matter whether the syndicator was then in the process of selling partnership interests since the primary purpose of the advertisement is to sell securities and to condition the market for future sales.

In Alma Securities Corp. (August 2, 1982) the Staff took the position that tombstone advertisements published following the completion of a private placement could violate Rule 502(c) if they help solicit investors to invest in contemporaneous or future offerings. As stated by the staff, “where a sponsor or issuer conducts an ongoing program of private or limited offerings, tombstone announcements for the completion of each individual offering could be used to solicit investors to the program as a whole.”

The advertisement need not be one from the issuer. Third party advertisement can also cause problems. The SEC has declined to provide no-action relief regarding whether an advertisement would violate Rule 502(c) if the issuer did not sponsor the advertisement and it was published in an independent source (Oil and Gas Investor, No-Action Letter (Jan. 23, 1984)). The SEC declined to provide no-action relief to a question regarding whether an independent source could distribute reviews and analyses of various private offerings to a limited group of paid subscribers. (Tax Inv. Information Corp., No Action Letter, 1983 WL 29834 (Feb. 7, 1983)). The SEC seems to review these on a case by case basis.

Image is a Stock certificate for 10 shares of Birmingham Motors in the public domain, available on Wikimedia Commons.

Fund Raising Publicity

1903 stock certificate of the Baltimore and Ohio Railroad

Under the U.S. securities laws, it is important for private investment funds to avoid engaging in a “general solicitation” or “general advertising” prior to and during fund raising. The key to private investment funds and the private offering of interests in the funds is that they are “private.”

Assuring the private nature of an offering means that not only the issuer, but any party acting on its behalf, must refrain from generally soliciting potential purchaser. This means that a fund and its agents (which includes all management, personnel, placement agents,attorneys, accountants and other representatives) must be careful during the fund raising period not to make statements to the general public with regard to an investment in a fund.

Rule 502(c) of Regulation D states the limitation as “neither the issuer nor any person acting on its behalf shall offer or sell the securities by any form of general solicitation or general advertising, including, but not limited to, the following:

1. Any advertisement, article, notice or other communication published in any newspaper, magazine, or similar media or broadcast over television or radio; and

2. Any seminar or meeting whose attendees have been invited by any general solicitation or general advertising. . . “

If a fund or its agents make statements that could be viewed as a “general advertising” or “general solicitation”, the SEC could impose a “cooling-off period.” This would typically mean a cessation of all fundraising and a moratorium on fund closings for a period of several months. A “general solicitation” could also trigger registration of the fund sponsor or the fund under the Advisers Act or the Investment Company Act.

The SEC has indicated that it believes that the following actions violate Rule 502(c):

1. Mass mailings

2. Speaking to the media about a solicitation when funding or investment matters are discussed, whether such speech is directed at current fundraising efforts or deemed to be an attempt to “condition the market” by making reference to the success or attractive return of previous investments.

3. Print, radio and television advertisements or solicitations regarding funding or investment matters

4. Tombstone advertising (an ad which does no more than give the barest of information) is held by SEC staff to “condition the market” for the securities and therefore constituted an offer even though the tombstone did not specifically mention the transaction in question.

Rule 502(c) prohibits general solicitation or general advertisement that occurs in connection with a Regulation D securities offering. This is to separate typical company advertising if a company advertises with no intention to “offer or sell the securities of the issuer” then such advertising should not violate rule 502(c).

The image is a 1903 stock certificate of the Baltimore and Ohio Railroad in the public domain and available on Wikimedia Commons.

Facing Conflicts of Interest in Troubled Times

80_markkula_center_ethics2

As the recession continues, conflicts and ethics are likely to increase. Morrison & Foerster LLP and The Markkula Center for Applied Ethics put together a webinar: Facing Conflicts of Interest in Troubled Times. These are my notes.

James Balassone, Executive in Residence, Markkula Center for Applied Ethics, started by talking about the environment in which the problems take place. He first pointed out that the downturn has uncovered the excesses of the previous boom. It did not cause more Ponzi schemes, they just became apparent.

He then looked at the forces that increase illegal or unethical behavior. First is excessive pressure to bend or break the rules. That pressure can come from one of three place. There is hierarchical pressure from above. There is teammate pressure form peer. There is individual pressure to succeed.

Another force that increase illegal or unethical behavior is fear and angst. People are afraid of losing their jobs. In a downturn, when there are layoffs happening, you want to be a top performer.

Jim contrasted those fears with factors that provide restraint:

  • Loyalty – to resist personal temptation
  • Courage – to raise an issue or report a wrongdoing
  • Sense of fairness – a willingness to share the pain
  • Reputation – value to the individual and the organization
  • Goodwill – to absorb further sacrifice
  • Integrity – to deliver more bad news

Collectively, these values form the ethical culture of the organization.

Next up was Steve Debenham, Senior Vice President, General Counsel & Secretary at AsystTechnologies, Inc. He focused on some of the issues faced when a company is insolvent or in the zone of insolvency. The issue is that when the company enters the zone of insolvency, the duty of the board shifts from the long term success of the company to the preservation of assets for the creditors.

Steve then turned to the inherent conflict involved in the re-pricing of stock options. With the stock market downturn, many option are underwater. There is an inherent conflict in the decision to re-price and fixing the new strike price when the officers and directors are involved in the process.

Nancy Leavitt Fineman, from Cotchett, Pitre & McCarthey focused on communication and sugar-coating bad news. You want to try to minimize the damage caused by bad news. But lying about performance is a good way to get your company sued or get handcuffs on your wrist. The securities laws are founded on full and complete disclosure.

Next up was Lynn E. Turner, former Chief Accountant of the SEC. The SEC wants to see companies play it straight down the middle (like a good golf shot). He hates the term business ethics. There is only one kind of ethics. If you start qualifying it, you can get yourself on a slippery slope.

He does not like the concept of crossing the line. “If you can see the line, you are probably too close.”

He thinks companies giving guidance is one of the most ridiculous things. It leads to nothing but trouble. If you miss it, your stock takes a hit from the analysts. So there is an excessive pressure to make those numbers.

Steve Debenham came back to talk about insider financing. DGCL §144 has statutory limitations on “Interested Director Transactions” as do other state corporate laws. There is an inherent conflict with an insider transaction. It is the transactions that are best for the director that are likely to get challenged. There is also the problem of lost opportunities.

Last up was Darryl P. Rains from Morrison & Foerster LLP to talk about the conflicts with joint representations in class and derivative actions. On the plaintiff’s side you have three groups: current shareholders, former shareholders, and shareholders’ attorneys. These parties may have some different interests.

On the defendant side you have several groups: the company, disinterested directors, interested directors, current officers, former officers, and employees. As with the plaintiffs, these groups may have different interests.

Given the differing interests, each fragmented group should have its own representation. But that multiplies the already expensive cost of litigation. On the defense side, a unified defense is usually a stronger defense.

Darryl pointed out the issues from the Broadcom case. (I wrote about this case in: Attorney-Client Privilege and Internal Investigations.) The law firm represented the company in an internal investigation. The same law firm also represented the company and officers in a shareholder suit. The law firm got in trouble when it turned over the statements the CFO made to the law firm.

In settling derivative actions, plaintiffs’ lawyers may be at odds over the settlement. The economic settlement can be different and sent more to the lawyers, with the plaintiffs merely getting some governance reform at the company. Darryl used the example of the settlement from Cirrus Logic.

This was a great webinar. It is archived so you can listen to the presentations and see the slidedeck from your office: Facing Conflicts of Interest in Troubled Times.