Sunday’s Dilbert on financial reports, trusted advisors, and Ponzi schemes.
Year: 2009
Facing Conflicts of Interest in Troubled Times
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.
Workplace Challenges of Pandemics
The reality of an influenza pandemic has now reached the American workplace. The Swine Flu H1N1 Influenza seems to have been overblown and is now ebbing. There were only two confirmed deaths. It appears that H1N1 is neither particularly contagious or deadly. In comparison, the H5N1 virus (the Avian Flu) is very deadly with an almost 50% mortality rate. Fortunately, the H5N1 virus is not contagious and is very difficult to spread.
Even though H1N1 did not turn into a pandemic, it is a good time to address your workplace plans for pandemics.
Employers need to to implement responses that protect their healthy employees, guard the privacy of sick employees, and comply with applicable national, state, and local law requirements. It is essential that employers do not permit overexcited media coverage to push them into taking actions that may be illegal or frightening to their employees.
The first step is to encourage healthy behavior by your employees:
- Cover your nose and mouth with a tissue when you cough or sneeze. Throw the tissue in the trash after you use it.
- Wash your hands often with soap and water, especially after you cough or sneeze.
- Avoid touching your eyes, nose or mouth. Germs spread that way.
- Stay home if you get sick. Limit contact with others to keep from infecting them.
In planning for a pandemic, you need to be careful if you decide to survey your employees about factors that may cause them to miss work in the event of a pandemic. You can trip over health privacy issues and ADA limitations. The EEOC made an ADA-Compliant Pre-Pandemic Employee Survey:
Directions: Answer “yes” to the whole question without specifying the reason or reasons that apply to you. Simply check “yes” or “no” at the bottom.In the event of a pandemic, would you be unable to come to work because of any of the following reasons:
Answer: YES __________ NO __________ |
It’s time to give some thought about what your workplace would to in the event there is a pandemic.
References:
- What You Can Do To Stay Healthy from the CDC
- Workplace Challenges of Swine Flu (.pdf) by Morgan Lewis
- EEOC Releases Technical Guidance on H1N1 Flu Virus and Compliance with ADA by Daniel Schwartz of the Connecticut Employment Law Blog
- ADA-Compliant Employer Preparedness For the H1N1 Flu Virus by the EEOC
- Fears of a deadly outbreak abate as swine flu virus gains foothold – Boston Globe
- Cumulative Number of Confirmed Human Cases of Avian Influenza A/(H5N1) Reported to WHO
The image is the H1N1 influenza virus, taken in the CDC Influenza Laboratory.
“Hello, Madoff” What the Secretary Saw
The June issue of Vanity Fair continues its coverage of Bernie Madoff. This issue centers around Eleanor Squillari, who spent two decades as Madoff’ private secretary.
The article, entitled “Hello, Madoff!,” is accompanied by more than a dozen intimate photos of Madoff and his family from as far back as the 1970s.
According to Eleanor Squillari, Bernie Madoff was a sexist, egomaniacal, short-tempered control freak—yet everybody loved him.
At first, I was not interested in the story. It looked a little sordid for me. Then I saw this quote:
Squillari recalls an unusually prescient conversation she had with Madoff years earlier, after a client’s secretary had been arrested for embezzlement. “You know, [he] has to take some responsibility for this,” Madoff told Squillari. “He should have been keeping an eye on his personal finances. That’s why I’ve always had Ruth watching the books. Nothing gets by Ruth.” Squillari says she was surprised when he added: “Well, you know what happens is, it starts out with you taking a little bit, maybe a few hundred, a few thousand. You get comfortable with that, and before you know it, it snowballs into something big.”
Perhaps the story will give us some insight into what makes a person go bad.
For a preview, there is a video of Vanity Fair’s Mark Seal interviewing Eleanor Squillari: Bernie Madoff’s Secretary Spills His Secrets.
Part I of Vanity Fair’s coverage of Madoff was in the April issue: Madoff’s World.
Perspectives on Hedge Fund Registration
On Thursday, May 7, 2009, 11:00 a.m., the Subcommittee on Capital Markets, Insurance, and Government Sponsored Enterprises will hold a hearing on: “Perspectives on Hedge Fund Registration”
The Committee will be offering a live webcast of the hearing.
Insider Trading on Credit Default Swaps
The Securities and Exchange Commission brought its first insider trading enforcement action involving credit default swaps. Renato Negrin, a former portfolio manager at hedge fund investment adviser Millennium Partners L.P., and Jon-Paul Rorech, a salesman at Deutsche Bank Securities Inc., are charged with insider trading in credit default swaps of VNU N.V., an international holding company that owns Nielsen Media and other media businesses.
The SEC’s complaint alleges that Rorech learned information from Deutsche Bank investment bankers about a change to the proposed VNU bond offering. This change was expected to increase the price of the CDS on the VNU bonds. Rorech tipped Negrin about the contemplated change to theVNU bond offering, and Negrin then purchased CDS on VNU for a Millennium hedge fund. When news of the restructured VNU bond offering became public, the price of VNU CDS substantially increased. Negrin closed Millennium’s VNU CDS position at $1.2 million profit.
“This is the first insider trading enforcement action involving credit default swaps,” said Scott W. Friestad, Deputy Director of the SEC’s Division of Enforcement. “As alleged in our complaint, Rorech and Negrin checked their integrity at the door and schemed to engage in insider trading of CDS to the detriment of investors and our markets.”
James Clarkson, Acting Director of the SEC’s New York Regional Office, added, “CDS may still be obscure to the average individual investor, but there is nothing obscure about fraudulently trading with an unfair advantage. Although CDS market participants tend to be experienced professionals, there must be a level playing field with even the most sophisticated financial instruments.
It should not come as no surprise that the buying and selling of Credit Default Swaps is subject to the insider trading laws.
See:
- SEC Charges Hedge Fund Manager and Bond Salesman in First Insider Trading Case Involving Credit Default Swaps – SEC press release
- SEC Complaint against Jon-Paul Rorech and Renato Negrin – hosted on JD supra
- SEC Files First Credit Default Swap Insider Trading Case – SEC litigation release
- SEC Files First-Ever Insider Trading Case Involving Credit Default Swaps by Bruce Carton of Securities Docket
Corporate Compliance & Ethics Week at The Home Depot
Crystal M. Consonery, PhD, CCEP shared the experiences of Home Depot during the 2008 Corporate Compliance & Ethics Week. The goal was increasing awareness of the Corporate Compliance department. So they decided to use Corporate Compliance & Ethics Week to launch their departmental awareness and branding.
One of Home Depot’s eight core values is “Doing the Right Thing.” Corporate Compliance is the embodiment of the value: Doing the “right” thing was at the forefront when they were tailoring their message to meet the needs of the company’s diverse population and in the selection of events and topics of discussion that would appeal to associates at different levels
in the organization.
Their schedule of events was announced through various communication channels, including elevator posters, lobby easels, the company’s weekly communication newsletter, and a company-wide communication from the CEO. They also invited external corporate compliance colleagues to the week’s events.
See:
Advertising Limitations for Investment Advisers on Social Networking Sites
While FINRA has a very strict limitation on advertisements focusing on procedures, investment advisers have a principles driven approach to limitations on advertising.
To start, an advertisement is any communication addressed to more than one person that offers (1) analysis concerning a security, (2) any information to used in making a determination to buy to sell a security, or (3) any investment advisory service with regard to securities. That means bulk emails, television ads, radio ads, websites, and social networking sites are advertisements. If you label yourself as an investment adviser in your Facebook profile, Twitter profile, or blog information, those sites are advertisements. Even if you use them solely for personal purposes, they may be considered an advertisement if you mention securities or offer your services.
Given the broad definition of advertisement, you should just assume that your activity on a social networking site is an advertisement.
Let’s focus on the things you can’t do in an advertisement and then come back to how they affect an investment adviser’s use of the internet and social networking sites. These all come from the general prohibition on fraud under Section 206 of the Investment Advisers Act.
First, you can’t have “any testimonial of any kind concerning the investment adviser or concerning any advice, analysis, report or other service rendered by such investment adviser.” That means no recommendations on LinkedIn or other social networking site. That means you would need to moderate your blog comments and delete any that seem like a testimonial or recommendation.
Second, you can’t refer to past specific recommendations of securities. However, you can separately provide a separate detailed list of all past recommendations over at least the past year, with name of the security, the date recommended, and the price at which it was recommended. You also need to include a legend that past performance is not an indication of future performance. That means you can’t advertise your past success. Effectively, you can’t cherry-pick your best performing securities recommendations. You also need to disclose all material facts necessary to avoid unwarranted inference.
Third, you can’t advertise a graph, chart, formula, or other device for use in determining which securities to buy or sell or when to do so.
Fourth, you can’t offer any report, analysis, or other service for free, unless it is actually entirely free and without any condition or obligation.
Fifth, your advertisement can’t have any untrue statement or material fact or otherwise be false or misleading.
In looking at these principles, you can’t communicate something on a web 2.0 site that you could not put in a newspaper advertisement.
There has not been any additional guidance from the SEC on the use of Web 2.0 by investment advisers. In a speech last week, Mary Schapiro said that the SEC “hasn’t come to a resolution on the new technology.” That alone may shy investment advisers away from using web 2.0 and social networking sites.
See:
- Rule 206(4)-1 The Advertising Rule
- Compliance and Recommendations on Social Networking Sites – previous post
- FINRA’s Guide to the Internet – previous post
- Section 206 of the Investment Advisers Act
- SEC No Action Letters on Advertising for Investment Advisers
- The TCW Group, Inc., November 7, 2008
- Investment Adviser Association, December 2, 2005
- Trainer, Wortham & Co. Froley, Revy Investment Co. Starbuck, Tisdale & Assoc., December 6, 2004
- Investment Counsel Association of America, Inc., March 1, 2004
- Jennison Associates LLC, July 6, 2000
Ethics and Facebook
Can a lawyer hire a third person to send a “friend request” to a witness? According to an opinion from the Philadelphia Bar Association’s Professional Guidance Committee the answer is no.
Although the information on someone’s Facebook profile is discoverable, a lawyer can’t try to access the page through deception. Although imperfect, I liked this analogy in the Bar Opinion:
The inquirer has suggested that his proposed conduct is similar to the common — and ethical — practice of videotaping the public conduct of a plaintiff in a personal injury case to show that he or she is capable of performing physical acts he claims his injury prevents. The Committee disagrees. In the video situation, the videographer simply follows the subject and films him as he presents himself to the public. The videographer does not have to ask to enter a private area to make the video. If he did, then similar issues would be confronted, as for example, if the videographer took a hidden camera and gained access to the inside of a house to make a video by presenting himself as a utility worker.
This opinion should not affect a workplace from putting a sensible policy in place for dealing with Facebook and other Web 2.0 tools. Make sure you have a Blogging / Social Internet Policy.
See:
- Legal Ethics and Facebook by Andrew Perlman on the Legal Ethics Forum
- Opinion 2009-02 of the Philadelphia Bar Association’s Professional Guidance Committee (.pdf) March 2009
This Week is Corporate Compliance & Ethics Week
The Society of Corporate Compliance & Ethics is promoting the week of May 3-9, 2009 as Corporate Compliance & Ethics Week.