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January 13, 2019 |
Gibson Dunn Named a 2018 Law Firm of the Year

Gibson, Dunn & Crutcher LLP is pleased to announce its selection by Law360 as a Law Firm of the Year for 2018, featuring the four firms that received the most Practice Group of the Year awards in its profile, “The Firms That Dominated in 2018.” [PDF] Of the four, Gibson Dunn “led the pack with 11 winning practice areas” for “successfully securing wins in bet-the-company matters and closing high-profile, big-ticket deals for clients throughout 2018.” The awards were published on January 13, 2019. Law360 previously noted that Gibson Dunn “dominated the competition this year” for its Practice Groups of the Year, which were selected “with an eye toward landmark matters and general excellence.” Gibson Dunn is proud to have been honored in the following categories: Appellate [PDF]: Gibson Dunn’s Appellate and Constitutional Law Practice Group is one of the leading U.S. appellate practices, with broad experience in complex litigation at all levels of the state and federal court systems and an exceptionally strong and high-profile presence and record of success before the U.S. Supreme Court. Class Action: Our Class Actions Practice Group has an unrivaled record of success in the defense of high-stakes class action lawsuits across the United States. We have successfully litigated many of the most significant class actions in recent years, amassing an impressive win record in trial and appellate courts, including before the U. S. Supreme Court, that have changed the class action landscape nationwide. Competition: Gibson Dunn’s Antitrust and Competition Practice Group serves clients in a broad array of industries globally in every significant area of antitrust and competition law, including private antitrust litigation between large companies and class action treble damages litigation; government review of mergers and acquisitions; and cartel investigations, internationally across borders and jurisdictions. Cybersecurity & Privacy: Our Privacy, Cybersecurity and Consumer Protection Practice Group represents clients across a wide range of industries in matters involving complex and rapidly evolving laws, regulations, and industry best practices relating to privacy, cybersecurity, and consumer protection. Our team includes the largest number of former federal cyber-crimes prosecutors of any law firm. Employment: No firm has a more prominent position at the leading edge of labor and employment law than Gibson Dunn. With a Labor and Employment Practice Group that covers a complete range of matters, we are known for our unsurpassed ability to help the world’s preeminent companies tackle their most challenging labor and employment matters. Energy: Across the firm’s Energy and Infrastructure, Oil and Gas, and Energy, Regulation and Litigation Practice Groups, our global energy practitioners counsel on a complex range of issues and proceedings in the transactional, regulatory, enforcement, investigatory and litigation arenas, serving clients in all energy industry segments. Environmental: Gibson Dunn has represented clients in the environmental and mass tort area for more than 30 years, providing sophisticated counsel on the complete range of litigation matters as well as in connection with transactional concerns such as ongoing regulatory compliance, legislative activities and environmental due diligence. Real Estate: The breadth of sophisticated matters handled by our real estate lawyers worldwide includes acquisitions and sales; joint ventures; financing; land use and development; and construction. Gibson Dunn additionally has one of the leading hotel and hospitality practices globally. Securities: Our securities practice offers comprehensive client services including in the defense and handling of securities class action litigation, derivative litigation, M&A litigation, internal investigations, and investigations and enforcement actions by the SEC, DOJ and state attorneys general. Sports: Gibson Dunn’s global Sports Law Practice represents a wide range of clients in matters relating to professional and amateur sports, including individual teams, sports facilities, athletic associations, athletes, financial institutions, television networks, sponsors and municipalities. Transportation: Gibson Dunn’s experience with transportation-related entities is extensive and includes the automotive sector as well as all aspects of the airline and rail industries, freight, shipping, and maritime. We advise in a broad range of areas that include regulatory and compliance, customs and trade regulation, antitrust, litigation, corporate transactions, tax, real estate, environmental and insurance.

January 15, 2019 |
2018 Year-End Securities Enforcement Update

Click for PDF I.   Introduction: Themes and Developments A.   2018 In Review The Securities and Exchange Commission, like most federal agencies, ended 2018 with a whimper, not a bang. Most staffers were furloughed as part of the federal government shutdown, a note on the SEC homepage cautioning that until further notice only a limited number of personnel would be on hand to respond to emergency situations. The shutdown curtailed the Division of Enforcement’s ability to close out the year with a raft of last-minute filings, not to mention causing most SEC investigations to grind to a halt.  That said, between the December 27 shutdown and the date of this publication, the SEC did manage to institute two enforcement actions – a settlement with a car rental company for accounting errors occurring between 2012 and 2014[1]; and a settlement with a small accounting firm for failing to comply with the Custody Rule in connection with audits of an investment adviser conducted between 2012 and 2015.[2]  Given the age of the conduct, it is unclear the nature of the “emergency” requiring unpaid SEC staffers to come to work in the midst of the shutdown to release these two particular cases, though perhaps an impending statute of limitations was to blame. While the shutdown may have cut the Enforcement Division’s year short, it was more than compensated for by the flurry of actions filed as the agency’s September 30 fiscal year-end loomed.  Indeed, the SEC issued nearly a dozen press releases announcing enforcement actions on the last three days of the fiscal year, including several significant cases involving prominent public companies and financial institutions. The (fiscal) year-end rush appeared intended to blunt some of the criticism of the Enforcement Division’s productivity in the new administration.  After filing 446 new stand-alone enforcement actions in fiscal 2017, an over 18% drop from the 548 actions filed in 2016, the docket recovered somewhat in 2018, with the SEC filing 490 new actions.[3]  (The SEC’s tally of “stand-alone” enforcement actions excludes “follow-on” proceedings sanctioning individuals separately charged for violating the securities laws, and routine administrative proceedings to deregister the stock of companies with delinquent SEC filings.)  While still falling short of the final years under the prior SEC and Enforcement Division leadership, the current Division Directors were quick to note in their Annual Report that the 2015 and 2016 results were somewhat skewed by the SEC’s Municipalities Continuing Disclosure (MCDC) Initiative, under which municipal securities issuers and underwriters who self-reported disclosure violations to the Division received leniency.  The initiative produced nearly 150 enforcement actions; stripped of those matters, the 2018 results actually exceeded those of recent years. The Division Directors further explained that these results were achieved notwithstanding a hiring freeze in place at the SEC since the onset of the Trump administration, and the Division’s Annual Report included a plea for additional resources.  As stated in the Report, “While this achievement is a testament to the hardworking women and men of the Division, with more resources the SEC could focus more on individual accountability, as individuals are more likely to litigate and the ensuing litigation is resource intensive.”  The Directors also noted the challenges posed by the Supreme Court’s decision in Kokesh v. SEC, which confirmed a strict five-year statute of limitations on SEC demands for disgorgement[4], as well as the Court’s more recent decision in Lucia v. SEC, which held that the SEC’s method of appointing its administrative law judges violated the Appointments Clause of the U.S. Constitution and has necessitated the potential re-litigation of myriad administrative proceedings.[5] Thematically, the Enforcement Division (as well as SEC Chairman Clayton) repeatedly reiterated their focus on protecting “retail” or “Main Street” investors.  Indeed, the Division’s Annual Report invoked the word “retail” no fewer than twenty-six times.  (A close second was “cyber,” another Division priority, which appeared twenty-four times in the Report.)  The “retail” focus has led the SEC to highlight cases in which average investors appear to be victimized, particularly offering frauds, pump-and-dump-schemes, and misconduct by investment advisers and broker dealers directed at individual clients.  For fiscal 2018, according to the Annual Report, securities offering cases (which range from Ponzi schemes to various disclosure and registration violations in connection with securities offerings) comprised 25% of the year’s enforcement actions, the largest single category.  Cases against investment advisers and investment companies were just behind at 22% of the caseload; and while the SEC continues to bring cases involving private funds and institutional investors, the lion’s share of investment adviser cases fit within the SEC’s “retail” focus. Despite efforts in recent years for the Enforcement Division to renew its scrutiny of public company financial reporting and disclosure – which in the past had often been the top category of SEC enforcement actions, representing a quarter or more of the docket – such cases comprised only 16% of the SEC’s enforcement actions in 2018.  Rounding out the docket were cases involving broker-dealers (13%), insider trading (10%), and market manipulation (7%); FCPA cases and public finance abuse checked in at 3% of the enforcement filings apiece. B.   Whistleblowers The whistleblower bounty program enacted as part of Dodd-Frank continues to grow apace with each new year.  In its November 2018 annual report to Congress, the SEC’s Office of the Whistleblower reported that the program had once again netted a record number of tips.[6]  A total of 5,282 whistleblower complaints were received in fiscal 2018, up nearly 18% from 2017.  (The report noted that the Whistleblower Office appears to have its share of vexatious whistleblowers who submit an “unusually high” number of tips, which are excluded from the tally.) As with enforcement cases ultimately filed by the Enforcement Division in 2018, the largest single category for tips for 2018 was offering frauds, representing 20% of all complaints; tips concerning corporate disclosures and financials were a close second, representing 19% of the complaints. The SEC has also continued to announce large award payments to whistleblowers whose tips led to successful enforcement actions.  In September, the SEC announced that it had awarded $39 million to a single whistleblower, the second highest award in the history of the program; the same investigation also resulted in a $15 million payment to a second whistleblower.[7]  However, due to the whistleblower regulations’ confidentiality requirements, the nature of the enforcement action resulting in these awards is not reported. The SEC announced two additional whistleblower awards later that same month. First, the SEC reported a $1.5 million payment, while noting that “the award was reduced because the whistleblower did not promptly report the misconduct and benefitted financially during the delay.”[8]  And in a second case, the SEC awarded $4 million to an overseas whistleblower, touting the important service that even those outside the U.S. can provide to the SEC.[9]  The SEC further heralded the tipster’s continuing assistance throughout the course of the investigation. According to its most recent release, the SEC has now awarded over $326 million to 59 individuals under its whistleblower program. C.   Cybersecurity and Cryptocurrency As noted above, the SEC’s Enforcement Division remains acutely focused on all things “cyber.”  While this has manifested itself primarily, in recent months, on enforcement actions involving cryptocurrency and digital assets, the Division also had several noteworthy firsts in matters of cybersecurity in the latter half of the year. First, in September, the SEC brought its first enforcement action alleging violations of the Identity Theft Red Flags Rule.[10]  The SEC alleged that a broker-dealer lacked adequate safeguards to prevent intruders from resetting contractor passwords in order to gain access to personal information about certain customers.  Without admitting the allegations, the firm agreed to pay a $1 million penalty and to retain a consultant to evaluate its compliance with the Safeguards Rule and the Identity Theft Red Flags Rule. Then, in October, the Enforcement Division issued a report on its investigations of nine public companies which had been victimized by cyber fraud.[11]  According to the SEC, attackers had used fraudulent emails to pose as executives or vendors in order to dupe company personnel into sending about $100 million (in the aggregate) into bank accounts controlled by the perpetrators.  The SEC declined to charge the companies with wrongdoing, but cautioned companies that the internal controls provisions of the federal securities laws require them to ensure they have adequate policies and procedures to mitigate such incidents and safeguard shareholder assets.[12] But most of the high-tech action happened on the cryptocurrency front, with the Enforcement Division similarly touting a number of firsts.  Most of these actions related to registration-related conduct engaged in after the Commission’s 2017 DAO Report, in which the Commission concluded that digital assets may be securities under the federal securities laws. In September, the SEC settled an action against a so-called “ICO superstore” and its owners for acting as unregistered broker-dealers by operating a website that permitted visitors to purchase tokens in ICOs and engage in secondary trading.[13] This was the first case in which the SEC charged unregistered broker-dealers for selling digital assets.  Collectively, the company and owners paid nearly $475,000 in disgorgement, while the owners also paid $45,000 each in penalties and consented to industry and penny stock bars and an investment company prohibition with a right to reapply after three years. The same day, the SEC found for the first time that a hedge fund manager’s investments in digital assets constituted an investment company registration violation.[14]  According to the SEC, the fund falsely claimed to be regulated by and to have filed a registration statement with the SEC, and raised more than $3.6 million in four months.  It also engaged in an unregistered public offering and invested more than 40% of its assets in digital asset securities. The fund and its sole principal consented to pay a combined $200,000 penalty to settle the case. In November, the SEC settled an action against the founder of a digital token-trading platform, finding for the first time that such a platform operated as an unregistered national securities exchange.[15]  The platform in question matched buyers and sellers of digital assets, executed smart contracts, and updated a distributed ledger via the Ethereum blockchain, among other things. The founder consented to disgorge $300,000 and pay a $75,000 penalty.  The SEC noted that its investigation remains ongoing. Also in November, the SEC settled actions against two technology companies for failing to register their ICOs pursuant to federal securities laws.[16]  Both companies raised over $10 million worth of digital assets to fund their respective business ventures.  These were the first cases in which the SEC imposed civil penalties solely for ICO-related registration violations. The companies consented to return funds to investors, register their tokens as securities, file periodic reports with the SEC for at least one year, and pay $500,000 in total penalties. That same month, the SEC also for the first time brought actions against individuals for improperly promoting ICOs.  The SEC settled actions against two celebrities for their respective failures to disclose that they were being compensated for promoting upcoming ICOs on their social media accounts.[17]  The celebrities received approximately $350,000 in total for their promotions, all of which they were required to disgorge, along with $400,000 in total penalties. The celebrities also consented to a combined five-year ban on promoting any security. The second half of this year also saw the SEC crack down on ICOs claiming to be registered with the SEC.  In October, the SEC suspended trading of a company’s securities after the company issued two press releases falsely claiming to have partnered with an SEC-qualified custodian for use with cryptocurrency transactions and to be conducting an “officially registered” ICO.[18]  Also in October, the SEC obtained an emergency court order halting a planned ICO that falsely claimed to be SEC-approved.[19]  On October 11, a federal judge froze the assets of the defendants—the company and its founder.  Notably, in one of the few setbacks to the SEC’s aggressive enforcement program in the cryptocurrency space, the same judge subsequently denied the SEC’s motion for a preliminary injunction, finding that the Commission had failed to show that the digital asset offered in the ICO was a security subject to federal securities laws.[20]  Litigation remains ongoing. Finally, September saw the SEC file a litigated action against an international securities dealer and its CEO for soliciting investors to buy and sell securities-based swaps.[21]  The SEC filed the case after an undercover FBI agent allegedly purchased securities-based swaps on the company’s platform despite not meeting the required discretionary investment thresholds.  The SEC alleged that the company failed to register as a security-based swaps dealer and transacted the securities-based swaps outside of a registered national exchange. II.   Issuer and Auditor Cases A.   Accounting Fraud and Internal Controls In July, the SEC charged a drainage pipe manufacturer and its former CFO with reporting and accounting violations.[22]  According to the SEC, the company allegedly overstated its income before taxes from 2013-2015 as a result of insufficient internal accounting controls, improper accounting, and “unsupported journal entries directed or approved” by the former CFO.  Without admitting or denying the allegations, the company agreed to pay a $1 million penalty while the CFO agreed to pay a $100,000 penalty, reimburse the company approximately $175,000 in stock sale profits, and be barred from practicing as an accountant before the SEC. In early September, the SEC announced a settlement with a telecommunications expense management company and three members of the company’s senior management related to allegedly fraudulent accounting practices.[23]  According to the complaint, the company prematurely reported revenue for work that had not been performed or for transactions that did not actually produce revenue.  The SEC also alleged that the company’s former senior vice president of expense management operations falsified business records that were provided to auditors.  The company and three executives agreed to pay a combined penalty of $1.67 million to settle the allegations.  The litigated action against the senior VP of expense management operations remains pending. Later that month, the SEC charged a U.S.-based CFO of a public company in China with using his personal bank account to transfer over $400,000 in corporate funds from China to the U.S. to pay the company’s U.S. expenses.[24]  The SEC’s complaint alleged that he had previously engaged in the same practice for at least two other China-based public companies.  The SEC contended that the commingling of corporate and personal funds put the company’s assets at risk of misuse and loss, and that the CFO had failed to implement an adequate set of internal accounting controls.  The CFO agreed to settle the charges without admitting wrongdoing, agreeing to pay a $20,000 fine and to be barred from serving as a public company officer or director for five years. Also in September, the SEC initiated enforcement actions against a business services company, its former CFO, and the company’s former controller related to allegations of accounting fraud.[25]  The complaint alleged that the CFO manipulated the company’s books to hide the increasing expense of its workers’ compensation relative to revenue from its independent auditor.  When the company announced that it needed to restate its financial results to reflect the actual workers’ compensation expenses, the stock price fell by 32%.  Without admitting or denying the allegations, the company agreed to pay $1.5 million to settle the charges, and the controller, who allegedly approved some of the CFO’s accounting entries, agreed to pay $20,000 and be suspended from appearing before the SEC as an accountant for one year.  The case against the CFO is being litigated, and he has also been charged criminally by the United States Attorney’s Office for the Western District of Washington.  The company’s CEO, who was not charged with wrongdoing, agreed to pay the company back his $20,800 in cash bonuses received during the period of the alleged accounting violations. The following day, a pipeline construction company agreed to settle charges that it failed to implement adequate internal accounting controls, and failed to adequately evaluate its control deficiencies when assessing the effectiveness of its Internal Control over Financial Reporting (“ICFR”), after problems with its revenue recognition surfaced.[26]  According to the SEC, the company used contingent cost estimates to cover potential risks inherent in a project that could add unanticipated expenses to its total costs.  The company failed to implement adequate controls around its contingent cost estimates, despite recognizing that such estimates were critical for properly recognizing revenue.  Without admitting liability, the company agreed to pay a $200,000 civil penalty. Later in September, the SEC announced a settled action against a pharmaceutical company and its former CFO for allegedly understating the amount of inventory held by its wholesaler customers, which occurred as a result of the company flooding its distribution channel with products.[27]  According to the complaint, this created more short-term revenue at the expense of future sales.  Without admitting or denying the allegations, the company agreed to be enjoined from future violations and the former CFO agreed to pay approximately $1 million in penalties and disgorgement, be subject to an officer and director bar for five years, and to be barred from appearing before the SEC as an accountant with a right to apply for reinstatement after five years. In a November case involving the Kenyan subsidiary of a U.S.-based tobacco company, the SEC charged that managers at the subsidiary overrode existing internal controls and failed to report accounting errors to the parent company.[28]  As a result, the parent company filed materially misstated financial statements for more than four years, including errors to its inventory, accounts receivable, and retained earnings numbers.  The parent company agreed to settle the internal controls violations on a no admit/no deny basis.  The SEC imposed a cease-and-desist order, noting the company’s remedial actions already undertaken, including sharing the results of its internal investigation with the SEC, hiring new accounting control positions within the African region, and implementing new internal accounting control procedures and policies. In December, the SEC filed a complaint against a multinational agricultural company and its executive chairman, alleging that they concealed substantial losses by improperly accounting for the divestiture of its China-based operating company.[29]  According to the SEC, the company overstated the value of stock received in the transaction and assigned a value of nearly $60 million to worthless land use rights.  The company agreed to pay a $3 million penalty and to cooperate with the SEC in future investigations, without admitting or denying the allegations.  Additionally, the CEO agreed to pay $400,000 and accept a five year officer and director bar. The next day, the SEC brought charges against a natural food company stemming from alleged weaknesses in the company’s internal controls regarding end-of-quarter sales practices that helped the company meet its internal sales targets.[30]  According to the SEC, the company’s sales personnel regularly offered incentives to customers to move inventory near quarter-end, including the right to return products that expired or spoiled prior to ultimate purchase, cash incentives, substantial discounts, and extended payment terms.  The company had failed to implement adequate controls to both detect and document these practices.  According to the SEC’s press release, no monetary penalties were imposed based on the company’s self-reporting to the SEC and significant remediation efforts, which included significant organizational changes and changes to its revenue recognition policies. Also in December, the SEC also instituted settled proceedings against a publicly-traded issuer of subprime automobile loan securities related to allegations that the company failed to accurately calculate its credit loss allowance from certain impaired loans and failed to segregate those loans from its general loan assets.[31]  The SEC also alleged that flaws in the company’s internal controls led to its errors in calculating credit loss allowance and caused the company to restate its financial statements twice in a one-year period.  Without admitting or denying the allegations, the company agreed to pay a $1.5 million penalty. Finally, the SEC brought a settled proceedings against five separate companies for filing quarterly financial forms without having their financial statements reviewed in advance, which is a violation of Regulation S-X.[32]  The SEC announced the charges against all five companies in a single press release, and each company agreed to remedial action, including payment of penalties ranging from $25,000 to $75,000. B.   Misleading Disclosures Beyond the accounting-related cases discussed above, the SEC pursued an unusual number of cases based on misleading disclosures by public companies in the latter half of the year. Misleading Metrics Many of the disclosure cases instituted by the SEC involved the use of allegedly misleading metrics of interest to investors. In July, the SEC filed settled proceedings against an engineering and construction company related to allegations that it inflated a key performance metric and had various accounting control deficiencies.[33]  According to the SEC’s order, the company’s “work in backlog” metric, which measured the revenue the company expected to earn from future firm orders under existing contracts, improperly included at least $450 million from orders that the company had not received.  Additionally, the SEC alleged that the company’s deficient accounting controls caused it to make inaccurate estimates of the costs to complete seven contracts, leading the company to restate its earnings.  Without admitting wrongdoing, the company agreed to pay a $2.5 million penalty. In August, the SEC separately instituted proceedings against a cloud communications company and two of its executives as well as executives at two online marketing companies related to allegations that they provided misleading numbers to investors.  In the first order, the SEC alleged that the company projected first quarter 2015 revenue of $74 million based on improperly reclassified sales forecasts when the CFO was aware of red flags that undermined confidence in that figure.[34]  Just a week before the end of the quarter, the company announced revenue projects that were approximately $25 million lower, causing the stock price to fall 33%.  Without admitting wrongdoing, the company agreed to pay $1.9 million and the two executives agreed to pay penalties ranging from $30,000 to $40,000.  In the second complaint, the SEC alleged that the former CEO and CFO of two online marketing companies, which formed a parent-subsidiary relationship in 2016, knowingly provided inflated subscriber figures.[35]  These charges arose out of a settled enforcement action the SEC brought against the companies themselves in June, in which the parent company agreed to pay a $8 million penalty.  Without admitting or denying the allegations, the two executives agreed to pay $1.38 million and $34,000, respectively. In September, the SEC announced a settled action with a payment processing company and its CEO.[36]  According to the SEC’s allegations, the company materially overstated a key operating metric that caused research analysts to overrate the company’s stock and promoted it in  its filings with the SEC, even though both the company and CEO had reason to know that the metric was inaccurate.  Without admitting or denying the allegations, the company agreed to pay a penalty of $2.1 million while the former CEO agreed to pay $120,000. Finally, in a relatively novel action, the SEC settled charges against a seller of home and business security services for failing to afford equal or greater prominence to comparable GAAP earnings measures in two of its financial statements containing non-GAAP measures.[37]  While the SEC has highlighted concerns about the prominence of non-GAAP metrics previously, this appears to be the first case in which that issue alone has resulted in an enforcement action.  Without admitting or denying the allegations, the company agreed to pay $100,000 to settle the matter. Executive Perks The SEC also brought several cases involving executive perks.  In July, the SEC announced a settlement with a chemical company related to charges that the company allegedly failed to adequately disclose approximately $3 million in perquisites given to its CEO in its 2013-2016 proxy statements.[38]  The SEC alleged that the company failed to disclose personal benefits not widely available and not integrally and directly related to an executive’s job duties.  The company agreed to pay a $1.75 million penalty and hire an independent consultant to help implement new perquisite disclosure policies. Also in July, the SEC alleged that the CEO of an oil company hid approximately $10.5 million in personal loans from a company vendor and a prospective member of the board.[39]  Additionally, the SEC alleged that the CEO received undisclosed compensation and perks, and that the company failed to report more than $1 million in excess compensation in its disclosures.  Without admitting or denying the SEC’s allegations, the CEO agreed to pay a $180,000 penalty and be subject to a five year bar from serving as an officer or director of a public company.  The board member also agreed to pay a penalty. Other Disclosures In July, the SEC instituted settled proceedings against a publicly-traded real estate investment trust and four executives, alleging that they failed to adequately disclose certain cashflow issues and the status of real property within its portfolio.[40]  The parties agreed to settle the charges without admitting or denying the allegations. In September, the SEC instituted proceedings against an industrial waste water treatment company and two senior executives, alleging that they failed to disclose to investors certain contractual contingencies that had not occurred in a material contract with Nassau, New York.[41]  To settle the allegations, without admitting or denying the SEC’s findings, the company agreed to pay $133,000 in penalties, disgorgement, and pre-judgment interest and the two executives agreed to pay civil penalties of $60,000 and $35,000 respectively. Also in September, the SEC announced a settlement with SeaWorld Entertainment Inc. and its former CEO.[42]  The SEC’s complaint alleged that the company and its CEO failed to adequately disclose the damaging impact a critical documentary had on the company’s business.  Without admitting or denying the allegations, the company and former CEO agreed to pay $5 million in penalties and disgorgement.  A former vice president of communications also agreed to pay $100,000 in disgorgement and prejudgment interest, without admitting or denying the allegations. That same day, the SEC filed a settled action against a biopharmaceutical company, its CEO, and former CFO, related to allegations that the company failed to timely disclose questions about the efficacy of its flagship lung cancer drug.[43]  Without admitting or denying the SEC’s allegations, the company and the executives agreed to the payment of disgorgement and penalties. Later that month, the SEC filed a settled action against a large drugstore chain, its former CEO, and former CFO for failing to communicate the increased risk of missing operating income projections in the wake of a corporate merger.[44]  The SEC alleged that in 2012, one of the predecessor entities had reaffirmed earlier projections despite internal projections showing an increased risk of falling short.  Without admitting or denying the allegations, the company paid a $34.5 million penalty and the two executives each agreed to pay $160,000. And at the end of September, the SEC announced a settlement with Tesla, Inc. and its CEO arising out of the CEO’s tweets about plans to take the company private.[45]  The SEC alleged that the potential transaction was subject to numerous contingencies, and that the company lacked sufficient controls to review the CEOs tweets.  Without admitting or denying the allegations, the company and its CEO agreed to pay civil penalties; additionally, the CEO agreed to step down from the board and be replaced by an independent chairman, and the company agreed to install two new independent directors, implement controls to oversee the CEO’s tweets, and establish a new committee of independent directors. C.   Auditor Cases In September, the SEC instituted proceedings against an accounting firm for improper professional conduct and violations of the securities law during the course of an audit of an information technology company.[46]   According to the SEC’s complaint, the firm ignored a series of red flags concerning cash held by a related entity and provided an unqualified opinion.  The firm and two of its principals agreed to be barred from appearing before the SEC as accountants for five years, and to pay monetary penalties. In October, the SEC suspended three former accountants from a larger audit firm related to allegations that they violated auditing standards and engaged in unprofessional conduct during an audit of an insurance company.[47]  According to the SEC’s order, the audit team fell behind schedule during the audit, but the senior manager directed team members to sign off on “predated” workpapers to make it appear that the audit had been completed before the company’s annual report was filed with the SEC.  The SEC also concluded that the engagement partner and quality review partner failed to exercise due professional care that would have prevented these deficiencies in the audit.  Without admitting or denying the SEC’s findings, the three accountants agreed to be suspended from practicing before the SEC as accountants for periods ranging from one to five years, pending applications for reinstatement. In December, the SEC instituted proceedings against an audit firm, two of its partners, and two partners from a now-defunct auditing firm, relating to “significant failures” in their audit of a company that went bankrupt after the discovery of more than $100 million in federal tax liability.[48]  According to the SEC’s order, the firm identified pervasive risks of fraud in the company but failed to undertake additional steps to address the risk.  The SEC also alleged that the audit firm was not actually independent of the company due to an ongoing business relationship.  To settle the allegations, the firm agreed to  pay a penalty of $1.5 million, and hire an independent compliance consultant.  All four partners agreed to be suspended from practicing before the SEC for between one and three years, and to pay penalties ranging from $15,000 to $25,000. Finally, outside the public company audit context, the SEC charged an audit firm with failing to maintain its independence when conducting “Custody Rule” and broker-dealer audits.  The SEC alleged that the firm violated independence standards by both preparing and auditing client financial statements, accompanying notes, and accounting entries for more than 60 audits over five years.  Without admitting nor denying the allegations, the firm settled with the SEC, agreeing to pay a $300,000 penalty and to cease any engagements that fall within the purview of the SEC for one year.  If the firm later chooses to accept such engagements, it must retain an independent complaint consultant for a three-year period and comply with all of the consultant’s recommendations for auditor independence. D.   Private Company Cases Finally, the SEC brought a number of financial reporting and disclosure cases against private (or pre-public) companies, including the following: In September, the SEC instituted settled proceedings against a seller of drones, toys, and other consumer products and its CEO related to allegations that they provided inaccurate sales information to the company’s auditor, which caused its Form S-1 registration statement to overstate the company’s revenue by approximately 15%.[49]  Without admitting or denying the SEC’s allegations, the CEO agreed to pay a $10,000 penalty and the company agreed to withdraw its registration statement, which had never been declared effective. Also in September, the SEC instituted proceedings against a California-based medical aesthetics company and its former CEO.[50]  The SEC alleged that just days before the company was going to close a stock offering, the CEO learned that its Brazilian manufacturer’s certificate to sell products in the European Union had been suspended, but concealed it from the company’s General Counsel and underwriters.  After the offering closed and the suspension subsequently became public, the stock price fell by 52% and the CEO continued to misrepresent his knowledge.  The SEC settled with the company, recognizing the company’s self-reporting to the SEC and extensive cooperation.  The SEC is litigating against the CEO. In November, the SEC instituted proceedings against an entertainment media company and five of its former officers and directors.[51]  According to the complaint, the company purchased downloads for its mobile app from outside marketing firms in order to boost its download ranking in the Apple App Store.  The company allegedly misrepresented to its shareholders why its app had risen in the download rankings, and continued to allegedly lie to shareholders about the growth of its downloads even after it stopped paying for downloads and its rankings plummeted.  The parties agreed to settle the charges without admitting or denying the allegations; the individuals agreed to pay penalties of varying amounts, three agreed to a permanent officer and director bar, and one agreed to a five-year bar. III.   Investment Advisers and Funds A.   Fees and Expenses In November, a California-based investment adviser settled allegations that it overcharged clients by failing to apply “breakpoint” discounts as provided in its fee schedule.[52]  According to the SEC, the adviser’s fee schedule entailed “breakpoints” which would decrease advisory fees as the amount of client assets under management increased.  For approximately eight years, however, the advisory fee discounts were applied haphazardly, resulting in overcharges to certain client accounts.  Without admitting the allegations, the adviser agreed to pay a penalty of $50,000.  The SEC recognized that, during the investigation, the adviser undertook remedial efforts, including reimbursements to clients of overcharged fees and modifications to its policies. In December, a formerly SEC-registered fund manager settled allegations that it misallocated expenses (such as rent, overhead, and compensation) to its business development company clients as well as failed to review valuation models that caused a client to overvalue its portfolio companies.[53]  The adviser agreed to pay approximately $2.3 million disgorgement and prejudgment interest, as well as a civil money penalty of approximately $1.6 million. Also in December, the SEC filed a settled administrative proceeding against a Milwaukee-based investment adviser and its owner/chairman in connection with alleged undisclosed fees.[54]  According to the SEC, the adviser added a sum to client transactions, which it called a “Service Charge.”  Part of this “Service Charge” would go towards paying a third-party broker, while the remainder went to the adviser.  The SEC alleges that the adviser did not disclose these payments to clients.  Without admitting or denying the allegations, the investment adviser and its owner agreed to pay approximately $470,000 in disgorgement and prejudgment interest, as well as a $130,000 civil penalty. Later that month, the SEC settled with a private equity fund adviser for allegedly improperly allocating compensation-related expenses to three private equity funds that it advised.[55]  According to the SEC, firm employees charged the funds for work unrelated to the three funds, violating the mandates of the governing documents of the funds.  The alleged wrongdoing spanned four years.  The firm cooperated extensively with the SEC, and the Commission accounted for those remedial efforts in settlement.  The firm agreed to more than $2 million in disgorgement and a civil monetary penalty of $375,000.   In a similar case also filed in December, the SEC settled with a fund manager for inadequate disclosures regarding certain expense allocations, as well as the alleged failure to disclose potential conflicts of interest arising from certain third-party service providers.[56]  Without admitting or denying the SEC’s allegations, the company agreed to pay $1.9 million in disgorgement and prejudgment interest and a $1 million civil penalty to settle the charges. At the end of December, the SEC settled with a private equity investment adviser in connection with allegations of improper expense allocations.[57]  According to the SEC, the investment adviser manages private equity funds and as well as co-investment funds on behalf of the company’s employees.  The two types of funds invest alongside each other.  When the adviser sought to acquire certain portfolio companies, co-investors were able to provide additional capital to invest.  According to the SEC, over the course of approximately fifteen years, the adviser failed to allocate certain expenses on a proportional basis between the private equity funds and the co-investor funds.  In connection with settlement, the SEC acknowledged that, following an examination by the Commission’s Office of Compliance Inspections and Examinations but prior to being contacted by the Division of Enforcement staff, the adviser proactively made full reimbursements, with interest, to affected funds.  The adviser agreed to pay a civil money penalty of $400,000. The SEC also brought a number of cases involving wrap fee programs. In August, an investment advisory firm settled allegations that it lacked policies and procedures to provide investors with sufficient information for investors to evaluate the appropriateness of their investments in the company’s wrap fee programs.[58]  Without admitting or denying the allegations, the firm agreed to pay a $200,000 civil penalty and to undertake efforts to enhance its procedures.  And in September, an affiliated investment adviser settled allegations that it failed to disclose conflicts of interest in connection with wrap fee programs.[59]  According to the SEC, over the course of three years, the investment adviser recommended that its clients invest in wrap fee programs, one of which was sponsored by the investment adviser.  Without admitting or denying the allegations, the company agreed to pay a $100,000 civil penalty. B.   Conflicts of Interest In July, the SEC filed a settled administrative proceeding against the managing partner and chief compliance officer of a private equity fund adviser, alleging that he arranged for one of his funds to make a loan to a portfolio company, the proceeds of which were used to purchase his personal interest in the company.[60]  The SEC alleged that the manager failed to disclose the conflicted transaction to the fund’s limited partnership advisory committee.  The manager agreed to pay a civil money penalty of $80,000 without admitting or denying the allegations.  The SEC’s order noted that the fund ultimately did not lose any money on the transaction. In late August, the SEC instituted settled proceedings against an investment adviser in connection with alleged failures to disclose a conflict of interest relating to third-party products.[61]  According to the SEC, the adviser’s retail advisory accounts were invested in third-party products that a U.S. subsidiary of a foreign bank managed.  In contravention of established practice, the adviser’s governance committee did not vote on a proposed recommendation to terminate the third-party products, and instead later permitted new adviser accounts to invest in these products.  In so doing, according to the SEC, the adviser did not disclose a conflict of interest.  Without admitting or denying the allegations, the adviser agreed to pay nearly $5 million in disgorgement and prejudgment interest, as well as a $4 million penalty. C.   Fraud and Other Misconduct In July, the SEC charged a Connecticut-based advisory firm and its CEO with placing around $19 million of investor funds into risky investments, including into companies in which they had an ownership stake, while charging large commissions on top of those investments.[62]  The complaint further alleged that the company overbilled some of its clients by calculating fees based on the earlier value of investments that had decreased in value.  The case is being litigated. In August, a Michigan-based investment management firm and its representative settled claims that they had engaged in a cherry-picking scheme.[63]  According to the SEC, the representative disproportionately allocated profitable trades to favored accounts, including personal and family accounts, at the expense of other clients.  The firm agreed to pay $75,000, and the individual respondent agreed to pay approximately $450,000 in disgorgement and penalties and to be barred from the industry.  The following month, the SEC pursued similar cherry-picking claims against a Louisiana-based adviser and its co-founder.[64]  That case is being litigated.  According to the SEC, it was the sixth case arising out of a recent initiative to combat cherry picking. September was a particularly busy month, as the SEC settled a number of fraud-based cases with investment advisers. The SEC settled charges with two New York City-based investment advisers and their 100% owner and president.[65]  The advisers allegedly engaged in a complex scheme to conceal the loss in the value of their clients’ assets by making false statements, improperly redeeming investments, and failing to disclose a variety of conflicts of interest.  To settle the charges, the advisers agreed to jointly and severally pay disgorgement of approximately $1.85 million and a civil penalty of $600,000. Also in September, the SEC charged a hedge fund adviser and its principal with running a “short and distort” scheme, taking a short position and then making a series of false statements to shake investor confidence and lower the stock price of a publicly-traded pharmaceutical company.[66]  According to the SEC, the fund used written reports, interviews and social media to spread untrue claims, driving the stock price down by more than a third.  The matter is being litigated. Later that month, the SEC settled with an asset manager, its former president, and its former CFO.[67]  The asset manager and former president were charged with fraudulently using investor funds to purchase interests in products offered by the firm’s parent corporation to benefit the parent, at which the former president also worked.  The individuals were also charged with improperly adjusting fund returns to show more favorable results to investors.  No charges were pursued against the parent corporation because of its prompt reporting of the misconduct, extraordinary cooperation with the SEC, and the reimbursement of around $1 million to adversely impacted investors.  The company settled for more than $4.2 million in penalties and disgorgement.  The former president and CFO agreed to pay penalties, and the president also agreed to a three-year bar from the securities industry. Early in December, an investment company settled charges of improperly recording and distributing taxable dividends, when those monies should have been recorded as return of capital.[68]  According to the SEC, while the error was not quantitatively large, it impacted a key metric used by investors and analysts to evaluate performance.  The only sanction imposed was a cease-and-desist order.  The firm admitted that its conduct violated federal securities laws and consented to the imposition of the order. D.   Share Class Selection The SEC has been particularly focused on advisers which recommend mutual funds to clients without adequately disclosing the availability of less expensive share classes.  In February 2018, the Division of Enforcement announced its Share Class Selection Disclosure Initiative, under which the Division agreed not to recommend financial penalties against advisers which self-report violations of the federal securities laws relating to mutual fund share class selection and promptly return money to victimized investors.  While the SEC has yet to announce any enforcement actions resulting from the self-reporting initiative, it has filed a number of actions against advisers which did not self-report such violations. In August, the SEC filed a settled administrative proceeding against a Utah-based investment adviser and broker-dealer relating to mutual fund distribution fees, known as 12b-1 fees.[69]  According to the SEC, for more than four years, the company, in its capacity as a broker-dealer, reaped compensation in the form of 12b-1 fees due to its clients’ mutual fund investments.  However, the company, in its capacity as an investment adviser, disclosed to advisory clients that it did not receive compensation from the sale of mutual funds.  In addition, the adviser recommended more expensive share classes of certain mutual funds when cheaper shares of the same funds were available.  The company agreed to pay over $150,000 to compensate advisory clients and a $50,000 civil money penalty. In mid-September, the SEC filed a settled administrative proceeding against a limited liability company in connection with 12b-1 fees.[70]  According to the SEC, for approximately three years, the adviser improperly collected 12b-1 fees from clients by recommending more expensive mutual fund share classes with 12b-1 fees when lower-cost share classes, without 12b-1 fees, were available.  Further, the SEC alleged that the adviser received, but did not disclose, compensation it received when the adviser invested its clients in certain no-transaction fee mutual funds.  The SEC acknowledged remedial acts undertaken and the company’s cooperation with the Commission.  The adviser agreed to pay over $1.3 million in disgorgement and penalties. On the same day in late December, the SEC settled two additional share class selection cases.  In the first, a Tennessee-based investment adviser settled charges in connection with the recommendation and sale of higher-fee mutual fund shares when less expensive share classes were available.[71]  The SEC alleged that for a period of approximately four years, the company’s president and investment adviser representative were the top two recipients of avoidable 12b-1 fees.  The investment adviser agreed to pay approximately $850,000 in disgorgement and prejudgment interest, as well as $260,000 as a civil penalty; collectively, the two individuals agreed to pay approximately $430,000 in disgorgement and prejudgment interest, in addition to $140,000 in civil penalties.  In the second case, the SEC settled charges with two investment advisers and a CEO of one of the firm on the ground that, despite the availability of less expensive share classes of the same funds, advisory clients’ funds were invested in mutual fund share classes that paid 12b-1 fees to the firms’ investment adviser representatives.[72]  In total, the investment advisers and CEO agreed to pay more than $1.8 million to settle the charges. E.   Misleading Disclosures The SEC brought a number of cases alleging misleading disclosures and omissions in the second half of 2018.  In July, the SEC announced a settlement with a California-based investment adviser and its majority owner.[73]  In the firm’s written disclosures to clients, the firm allegedly made material misstatements about the firm’s financial condition – most saliently, omitting to disclose the firm was insolvent during the relevant period and was operating on $700,000 in loans.  The SEC also alleged that the firm improperly withheld refunds of prepaid advisory fees from clients who requested via email to terminate their relationships.  The firm and its majority owner agreed to pay $100,000 and $50,000 respectively in civil monetary penalties to settle the charges. In August, the SEC settled two cases based on failures to disclose and misleading disclosures by investment advisers.  First, a Boston–based employee-owned hedge fund sponsor settled with the SEC over allegations of omissions, misrepresentations, and compliance failures relating to its practices which resulted in materially different redemption amounts when the fund lost value in a short period of time.[74]  The allegations included a failure to implement a compliance program consistent with the adviser’s obligations under the Advisers Act, a lack of disclosure to all investors of their option to redeem their investment in the fund, and inaccurate statements concerning assets in the Form ADV filed annually with the SEC.  The firm agreed to pay a civil penalty of $150,000. Four days later, the SEC settled with four related investment adviser entities for allegedly misleading investors through the use of faulty investment models.[75]  According to the SEC, the  quantitative investment models contained errors, and after discovering the issue the firms discontinued their use but did not disclose the errors.  The entities agreed to pay $97 million in disgorgement and penalties without admitting liability.  Two individual defendants, the former Chief Investment Officer and the former Director of New Initiatives of one of the entities, were also charged and settled with civil penalties of $65,000 and $25,000 respectively. Also in August, the SEC filed a litigated case against a Buffalo-based advisory firm and principal.[76]  According to the SEC, in anticipation of an SEC imposed bar, the owner of the firm sold the firm to his son.  Yet, after the imposition of the bar, his son failed to apprise clients of the bar and made misleading statements when clients inquired about the bar.  Moreover, the father allegedly impersonated his son when on phone calls with clients. A Massachusetts-based investment manager settled with the SEC on the final day of August.[77]  The company allegedly disseminated advertisements touting hypothetical returns based on blended research strategies while failing to disclose that some key quantitative ratings were determined using a retroactive, back-tested application of the financial model.  The company agreed to pay a civil penalty in the amount of $1.9 million to settle the allegations of violating the Advisers Act by publishing, circulating, and distributing advertisements containing misleading statements of material fact. In the first week of September, the SEC settled with a private investment firm and its managing partner for allegedly failing to provide limited partners in a fund with material information related to a change in the valuation of the fund.[78]  The respondents jointly agreed to pay a civil penalty in the amount of $200,000.  A week later, the SEC filed a lawsuit against an Indianapolis-based investment advisory firm and its sole owner for omitting to disclose that the firm and its owner would receive commissions of almost 20% on sales of securities which it encouraged its clients to buy.[79]  The latter case is being litigated. In December, the SEC settled with a California-based registered investment adviser for material misstatements and omissions in its advertising materials, allegedly inflating the results and success of the back-tested performance for one of its indexes over the course of eight years.[80]  The adviser agreed to pay a civil penalty of $175,000. And in late December, the SEC brought its first enforcement action against robo-advisers for misleading disclosures.[81]  Robo-advisers provide software-based, automated portfolio management services.  In the first robo-adviser case, the company disclosed to clients that it would monitor client accounts for “wash sales,” which could negate the tax-loss harvesting strategy it provided to clients.  According to the SEC, however, for approximately three years the adviser did not provide such monitoring, and wash sales took place in almost one-third of accounts enrolled in the tax-loss harvesting program.  This robo-adviser agreed to pay a $250,000 penalty.  In a separate case, a second robo-adviser agreed to settle charges that it provided misleading performance information on its website and social media.  According to the SEC, the company purported to show its investment performance as compared to robo-adviser competitors, but only included a small fraction of its client accounts in the comparison.  This adviser agreed to pay a $80,000 penalty to settle the matter. F.   Other Investment Adviser Issues Supervision and Oversight In August, the SEC announced a settled action against a Minnesota-based diversified financial services company that had allegedly failed to protect retail investor assets from theft by its agents.[82]  The SEC alleged that the respondents’ agents, many of whom pled guilty to criminal charges, committed fraudulent actions such as stealing client funds and forging client documents.  The company allegedly failed to adopt and implement policies and procedures reasonably designed to safeguard investor assets against misappropriation by its representatives.  The company agreed to pay a penalty of $4.5 million to settle the charges. In November, the SEC settled charges with a formerly registered investment adviser and its former CEO for negligently failing to perform adequate due diligence on certain investments.[83]  The SEC alleges that the firm failed to implement and reasonably design compliance policies and procedures which led to a failure to escalate and advise clients regarding concerns surrounding the investments, which turned out to be fraudulent.  Without admitting or denying the allegations, the firm agreed to pay a $400,000 civil penalty and the CEO agreed to a $45,000 civil penalty. Cross-Trades The SEC brought a handful of cases involving cross-trades between client accounts which favored one client at the expense of another.  In August, an investment adviser settled allegations that it had engaged in mispriced cross trades that resulted in the allocation of market savings to selected clients.[84]  According to the SEC, approximately 15,000 cross trades were executed at the bid price, resulting in the allocation of market savings to the adviser’s buying clients, while depriving selling clients of market savings.  The SEC further alleged that the adviser cajoled broker-dealers into increasing the price of certain municipal bonds and executed cross trades at these inflated prices, thereby causing buying advisory clients to overpay in these transactions.  To settle the matter, the adviser agreed to reimburse its clients over $600,000, plus interest, and pay a $900,000 penalty.  The following month, the SEC instituted a similar settled administrative proceeding against a Texas-based investment adviser for failing to disclose two cross trades, causing its clients to sustain $125,000 in brokerage fees.[85] Also in September, the SEC brought a settled action against a Boston firm and one of its portfolio managers, alleging that they facilitated a number of pre-arranged cross-trades between advisory client accounts that purposefully benefited certain clients at the expense of others.[86]  In addition to paying a $1 million penalty, the company agreed to reimburse approximately $1.1 million to its harmed clients.  The former portfolio manager agreed to pay a $50,000 penalty and to submit to a nine-month suspension. Testimonial Rule Violations In July, the SEC instituted five distinct settled proceedings against two registered investment advisers, three investment adviser representatives, and one marketing consultant in connection with violations of the Testimonial Rule, which bars investment advisers from publishing testimonial advertisements.[87]  The advertisements were published on social media and YouTube.  The civil penalties ranged from $10,000 to $35,000 for each of the individuals. In September, a Kansas-based investment adviser and its president/majority owner agreed to settle charges in connection with violations of the Testimonial Rule and ethics violations.[88]  The SEC alleges that the investment adviser broadcast advertisements through the radio, and one of the radio hosts later became a client and broadcast his experience.  According to the SEC, the investment adviser contravened its policies by not monitoring the radio coverage.  The firm agreed to pay a civil penalty of $200,000.  Separately, the company’s president/majority owner violated the company’s code of ethics by not reporting transactions in brokerage accounts held for the benefit of his family.  He agreed to pay a civil penalty of $50,000. Pay To Play Abuses There were two “pay to play” cases settled on the same day in July.  In the first matter, the SEC alleged that three associates of a California-based investment adviser made campaign contributions to candidates who had the ability to decide on the investment advisers for public pension plans.[89]  Within two years of the contributions, in contravention of the Advisers Act, the investment adviser received compensation in connection with advising the public pension plans.  The investment adviser agreed to pay a civil penalty of $100,000.  In the other case, the SEC alleged that the firm’s associates made contributions in a number of states, and the investment adviser similarly received payment to advise public pension plans in those states.[90]  The investment adviser agreed to pay a $500,000 civil penalty to settle the charges. Custody Rule Compliance The second half of the year entailed two Custody Rule cases against New York-based investment advisory firms.  Neither firm distributed annual audited financial statements in a timely fashion.  In the July matter, the SEC also alleged that the investment adviser lacked policies and procedures to preclude violations of the Advisers Act.  Without admitting or denying the allegations, the adviser agreed to pay a $75,000 civil penalty.[91]  In the September matter, the SEC also alleged that the firm violated the Compliance Rule by failing to review its policies and procedures on an annual basis.[92]  Without admitting or denying the allegations, the adviser agreed to pay $65,000 as a civil penalty. IV.   Brokers and Financial Institutions A.   Supervisory Controls and Internal Systems Deficiencies In the latter half of 2018, the SEC brought a number of cases relating to failures of supervisory controls and internal systems – an increase in this area over the first half of the year.  As part of its ongoing initiative into American Depositary Receipt (“ADR”) practices, the SEC brought numerous cases relating to the handling of ADRs—U.S. securities that represent foreign shares of a foreign company and require corresponding foreign shares to be held in custody at a depositary bank.  In July, the SEC announced settled charges against two U.S. based-subsidiaries, a broker-dealer and a depositary bank, of an international financial institution alleging improper ADR handling that led to facilitating inappropriate short selling and profits.[93]  Without admitting or denying the allegations, the subsidiaries agreed to pay $75 million in disgorgement and penalties.  In September, the SEC brought settled charges against a broker-dealer and subsidiary of a French financial institution; the broker-dealer agreed to pay approximately $800,000 in disgorgement and penalties without admitting or denying the findings.[94]  In December, the SEC settled charges against a depositary bank; the bank agreed to pay $38 million in disgorgement and penalties without admitting or denying the findings. [95] And finally, also in December, the SEC brought settled charges in two cases for providing ADRs to brokers when neither the broker nor its customer owned the corresponding foreign shares.  In the first December case, the SEC settled charges with a depositary bank headquartered in New York; the bank agreed to disgorgement, interest, and penalties of approximately $55 million without admitting or denying the charges.[96]  In the second case, the SEC settled charges with another depositary bank, a subsidiary of a large New York financial services firm.[97]  The SEC’s order alleged that the improper ADR handling led to inappropriate short selling and dividend arbitrage.  The firm agreed to pay over $135 million in disgorgement, and penalties without admitting or denying the charges. In addition to the ADR cases, the SEC also brought supervision cases for the failure to safeguard customer information and for the failure to supervise representatives who sold unsuitable products.  In July, the SEC brought settled charges against an international investment banking firm for failing to maintain and enforce policies and procedures designed to protect confidential customer information, including the failure to maintain effective information barriers.[98]  The SEC’s order alleged that traders at the bank regularly disclosed material nonpublic customer stock buyback information to other traders and hedge fund clients; the bank agreed to a $1.25 million penalty without admitting or denying the charges.  In September, the SEC announced settled charges against a New York-based broker-dealer and two of its executives for failure to supervise representatives in sales of a leveraged exchange-traded note (“ETN”) linked to oil.[99]  The SEC’s order alleged that the broker-dealer’s representatives did not reasonably research or understand the risks of the ETN or the index it tracked.  The broker-dealer agreed to pay over $500,000 in penalties, interest, and customer disgorgement without admitting or denying the charges, and the two executives agreed to penalties as well as a 12-month supervisory suspension.  The broker who recommended the largest number of ETN sales also agreed to a penalty of $250,000. Along with the supervisory cases described above, the SEC also brought a few cases relating to internal controls.  In August, the SEC announced settled charges in two cases against a large financial institution and two subsidiary broker-dealers involving books and records, internal accounting controls, and trader supervision.[100]  The charges in one action related to losses due to trader mismarking and unauthorized proprietary trading, which the SEC alleged were not discovered earlier due to a failure to supervise.  In the second action, the SEC alleged that the bank lacked controls necessary to prevent certain fraudulent loans. The financial institution and subsidiaries agreed to pay over $10 million without admitting or denying the allegations. Also in August, the SEC initiated settled proceedings against a credit ratings agency for alleged internal controls deficiencies relating to a purported failure to consistently apply credit ratings symbols which were used in models used to rate residential mortgage backed securities.[101]  The ratings agency agreed to pay over $16 million without admitting or denying the allegations. B.   Anti-Money Laundering As in the first half of the year, the SEC continued to bring a number of cases in the anti-money laundering (“AML”) area, all relating to the failure to file suspicious activity reports (“SARs”).  The Bank Secrecy Act requires broker-dealers to file SARs to report transactions suspected to involve fraud or with no apparent lawful purpose. In July, the SEC announced the settlement with a national broker-dealer relating to the failure to file SARs on the transactions of independent investment advisers that it had terminated.[102]  The broker-dealer agreed to pay a $2.8 million penalty to settle the action, without admitting or denying the charges.  Similarly, in September, the SEC instituted a settled administrative proceeding against a New York brokerage firm for failing to file SARs relating to a number of terminated investment advisers.[103]  Without admitting or denying the allegations, the firm agreed to pay a penalty of $500,000; the SEC’s Order noted that the settlement took into account remedial acts undertaken by the firm.  Also in September, the SEC settled charges against a clearing firm for failure to file SARs relating to suspicious penny stock trades.[104]  As part of the settlement, the clearing firm agreed to pay a penalty of $800,000 without admitting or denying the allegations, and also agreed that it would no longer sell penny stocks deposited at the firm. In December, the SEC brought settled charges against a broker-dealer alleging that during the period 2011-2013 it neglected to monitor certain movements of funds through customers’ accounts and to properly review suspicious transactions flagged by its internal monitoring systems.[105]  The firm agreed to pay a $5 million penalty to resolve the charges, as well as a $10 million penalty to the U.S. Treasury Department’s Financial Crimes Enforcement Network (FinCEN) and the Financial Industry Regulatory Authority (FINRA) to resolve parallel charges.  The broker-dealer did not admit or deny the SEC’s allegations except to the extent they appeared in the settlement with FinCEN. Also In December, the SEC announced settled charges against a broker-dealer for the failure to file SARs concerning over $40 million in suspicious wire transfers made by one customer in connection with a payday lending scam.[106]  The firm agreed to certain undertakings, including the hiring of an independent compliance consultant, without admitting or denying the allegations.  The U.S. Attorney’s Office for the Southern District of New York also instituted a settled civil forfeiture action against the broker-dealer in which it paid $400,000; the U.S. Attorney’s Office additionally entered into a deferred prosecution agreement with the firm. C.   Market Abuse Cases In the second half of 2018, the SEC’s Market Abuse Unit was involved in bringing three cases relating to “dark pools” (i.e., private exchanges) and the use and execution of customer orders.  In September, the SEC announced settled charges against a large financial institution relating to alleged misrepresentations in connection with the operation of a dark pool by one of its affiliates.[107]  The SEC alleged that the firm misled customers relating to high-frequency trading taking place in the pool and also failed to disclose that over half of the orders routed to the dark pool were executed in other trading venues.  The firm and its affiliate agreed to pay over $12 million in disgorgement and penalties without admitting or denying the SEC’s allegations. Also in September, the SEC, together with the New York Attorney General (“NYAG”), brought settled charges against an investment bank relating to the execution of customer orders by one of its desks responsible for handling order flow for retail investors.[108]  The SEC alleged that while the firm promoted the desk’s access to dark pool liquidity, a minimal number of orders were executed in dark pools; additionally, the firm allegedly failed to disclose that retail customers did not receive price improvement on non-reportable orders.  The firm agreed to pay a total of $10 million ($5 million to the SEC and $5 million to the NYAG) without admitting or denying the allegations. And in November, the SEC brought charges against a financial technology company and its affiliate for misstatements and omissions relating to the operation of the firm’s dark pool.[109]  The SEC alleged that the firm failed to safeguard subscribers’ confidential trading information despite assuring firm clients that it would do so, and also did not disclose certain structural features of the dark pool to clients.  The firm and its affiliate agreed to pay a $12 million penalty to settle the charges without admitting or denying the allegations. D.   Books and Records In July, the SEC brought settled charges against a New York-based broker-dealer relating to its failure to preserve records.[110]  The SEC alleged that the broker-dealer deleted audio files after receiving a document request from the Division of Enforcement (because the department responsible for the files was unaware of the request), and also failed to maintain books and records that accurately recorded expenses.  Without admitting or denying the allegations, the firm agreed to pay a penalty of $1.25 million. In September, the SEC announced charges against a broker-dealer for providing the SEC with incomplete and deficient securities trading information known as “blue sheet data” used by the SEC in its investigations.[111]  The SEC’s order alleged that approximately 29% of the broker-dealer’s blue sheet submissions over a four-year time period contained deficiencies due to coding errors.  The broker-dealer admitted the findings in the SEC’s Order and agreed to pay a $2.75 million penalty to settled the charges.  In December, the SEC instituted settled administrative proceedings against three broker-dealers for recordkeeping violations in another matter relating to deficient blue sheet data submissions.[112]  The SEC’s Orders noted that as a result largely of undetected coding errors, the three firms submitted blue sheet data that continued various inaccuracies.  The three broker-dealers admitted the findings in the SEC’s Orders and agreed to pay penalties totaling approximately $6 million.  The SEC’s Orders noted the remedial efforts undertaken by the firms, including the retention of an outside consultant and the adoption of new policies and procedures for processing blue sheet requests. E.   Individual Brokers Finally, in addition to its cases involving large financial institutions, the SEC brought a number of cases against individual broker-dealer representatives.  In September, the SEC filed complaints against two brokers in New York and Florida for excessive trading in retail customer accounts which generated large commissions for the brokers but caused losses for their customers.[113]  The case is being litigated. Also in September, the SEC filed a complaint against a broker for a cherry-picking scheme in which the broker allegedly misused his access to an allocation account to cherry pick profitable trades for his own account while placing unprofitable trades in customer accounts.[114]  The SEC noted that it uncovered the alleged fraud using data analysis.  The case is being litigated, and the U.S. Attorney’s Office for the District of Massachusetts announced parallel criminal charges. Finally, in December, the SEC settled with a self-employed trader (and entities that he owned and controlled) for violations of Rule 105 of Regulation M, which prohibits a person from purchasing an equity security during the restricted period of an offering where that person has sold short the same security.[115]  The SEC’s Order alleged that the trader violated Rule 105 by effecting short sales during restricted periods and mismarking short sales as “long sales” in a total of 116 offerings.  The trader agreed to pay disgorgement, interest, and penalties total approximately $1.1 million without admitting or denying the charges V.   Insider Trading A.   Cases Against Corporate Insiders Corporate Executives July was a busy month for corporate executives accused of insider trading and tipping.  First, the SEC charged the former CEO of a New Jersey-based payment processing company and his romantic partner in an insider trading scheme that leveraged nonpublic information about the potential acquisition of his company by another payment processing company.[116]  On the CEO’s instructions and with his funds, the romantic partner opened a brokerage account and used almost $1 million of the funds to purchase stock in the target company.  According to the SEC, the pair generated $250,000 in profits after the merger was announced.  The case is being litigated. The SEC also settled with a former VP of Investor Relations at a company operating country clubs and sports clubs alleged to have traded in his company’s stock after learning that it was negotiating to be acquired.[117]  After receiving an inquiry from FINRA, the officer resigned from the company and retained counsel who reported the misconduct to the SEC and provided them substantiating documentation.  In return, the SEC agreed to a settlement that involved disgorgement of his profits of approximately $78,000 and a civil penalty equal to about one-half of the disgorgement amount. Later in July, the SEC sued a senior executive at a Silicon Valley tech company for allegedly short selling as well as selling stock in his company ahead of three different quarterly announcements that the company was likely going to miss its revenue guidance.[118]  According to the SEC, the executive made nearly $200,000 in profits from these trades.  Without admitting wrongdoing, the executive agreed to disgorge his profits and pay a corresponding civil penalty, and to bebarred from acting as an officer or director of a public company for five years.  The SEC noted that it had utilized data analysis from its Market Abuse Unit’s Analysis and Detection Center to detect suspicious trading patterns in advance of earnings announcements over time. And at the end of July, the SEC sued a VP of Finance who learned from a senior executive at his company that a Chinese investment group might acquire the company.[119]  While preparing financial projections and conducting diligence, the VP allegedly used his spouse’s brokerage account to purchase shares of his company.  When it became public that his company had rejected the Chinese investment group’s offer in the hopes of receiving a higher price, the company’s share increased 24%, resulting in the VP earning nearly $90,000.  Without admitting liability, the officer agreed to disgorgement of his gains and a corresponding civil penalty. In August, the SEC charged a former biotech executive and others with participating in a scheme that generated $1.5 million of profits by trading ahead of the announcement of a licensing agreement between his company and another large pharmaceutical company.[120]  According to the complaint, the executive informed a friend of the license agreement.  The friend then tipped a former day trader, who, in connection with an insider-trading ring, purchased stock and options and made $1.5 million in illegal profits when the agreement was announced and the company’s stock price jumped 38 percent.  In a parallel action, the U.S. Attorney’s Office for the District of New Jersey charged the day trader and four members of his group with illegal insider trading ahead of secondary public stock offerings. All five defendants have pled guilty to the parallel criminal charges; the four members of the insider-trading ring other than the trader have agreed to partial settlements with the SEC for conduct including their trading on the license agreement, with potential monetary sanctions to be determined at a later date.  The SEC is continuing a previous action against the trader for alleged insider trading ahead of the secondary stock offerings. In August, the SEC sued a former Sales VP at a cemetery and funeral home operator for allegedly benefiting from confidential information obtained through his employer.[121]  After learning about a substantial decline in sales that would necessitate a reduction in the company’s distribution payments, the executive sold all of his shares in the company.  As part of a settlement, the executive agreed to pay disgorgement and a civil penalty. Also in August, the SEC settled charges against a former executive of a cloud security and services company.[122]  According to the SEC, the executive informed his two brothers, to whom he had gifted stock in the past, that the company would miss its revenue guidance, and contacted his brothers’ brokerage firm to coordinate the sale of all of their stock.  When the negative news was announced, the stock price dropped significantly and the brothers collectively avoided losses of over $580,000.  Under the terms of his settlement, the former executive will be barred from serving as an officer or director of a public company for two years and will pay a $581,170 penalty. In September, the SEC brought a settled action against a former executive at a mortgage servicing company.[123]  The SEC alleged that the executive engaged in insider trading surrounding three separate events, including the resolution of litigation and a CFPB enforcement action against the company, as well as negotiations to sell the company. Without admitting or denying the allegations, the executive agreed to disgorge his ill-gotten gains of almost $65,000 and to pay a penalty equal to the disgorgement amount. In October, the SEC charged a company’s former Director of SEC Reporting with trading ahead of a corporate acquisition.[124]  The complaint alleged that the individual bought call options and stock in a company targeted for acquisition by a subsidiary of the company. The matter is being litigated. In November, the acquisition of two health care networks by a large health care company led to two separate misappropriation cases.  The SEC charged a man with insider trading based on information he misappropriated from his wife, a human resources executive at the acquiring company, about the planned acquisitions.[125]  According the SEC, the man overheard his wife’s phone calls while she was working at home.  The husband agreed to pay disgorgement of about $64,000 and a penalty of $72,144.  The SEC also settled an insider trading charge against a man alleged to have misappropriated information from his brother, an executive at one of the target companies.[126]  According to the SEC, the insider had shared the information in confidence at a family holiday party.  The trader agreed to pay disgorgement and penalties totaling about $40,000. Board Members In a high profile case involving drug trials, the SEC and DOJ filed parallel charges for insider trading against a U.S. Congressman, his son, and a host of other individuals.[127]  According to the SEC’s complaint, the Congressman learned of negative drug trial results through his seat on a biotech company’s board.  The Congressman allegedly provided his son the inside information, who then told a third individual.  Over the next few days, the Congressman’s son, the third individual, and a number of their friends and family members sold over a million shares of the biotech company’s stock, which plummeted more than 92 percent following the announcement of the negative results.  As a result of the trading, the Congressman’s son and the third individual avoided approximately $700,000 in losses.  Two of the individuals sued ultimately settled with the SEC without admitting or denying the charges, agreeing to disgorge their gains totaling approximately $35,000 and to pay a matching civil penalty.  The SEC’s cases against the Congressmen, his son, and a third individual are ongoing. In August, the SEC sued the son of a bank board member who learned of the bank’s potential acquisition by another bank from his father prior to the acquisition’s public announcement.[128]  The son realized approximately $40,000 in gains after the acquisition became public.  Without admitting or denying the charges, the son agreed to disgorge the gains and to pay a matching civil penalty. Employee Insiders In July, the SEC sued a former financial analyst at a medical waste disposal company and his mother for trading on inside information that the company would miss its revenue guidance.[129]  Following the company’s earnings announcement, its stock fell 22%, resulting in the analyst and his mother avoiding losses and earning profits of approximately $330,000.  Both the analyst and his mother agreed to settle the case without admitting liability.  They will be required to disgorge their profits and pay a civil penalty in amounts to be later determined by the court. Also in July, in the second SEC case arising out of the Equifax data breach, the SEC charged a software engineer tasked with constructing a website for consumers who were impacted by the data breach for trading the company’s stock before the data breach was publicly disclosed .[130]  The engineer was fired after refusing to cooperate with the company’s investigation, though he and the SEC ultimately settled the case.  As part of that settlement, the engineer was ordered to disgorge $75,000 in profits.  The U.S. Attorney’s Office also filed criminal charges against the engineer. The SEC also filed a number of cases involving corporate scientists.  In July, the SEC charged a scientist at a California biotech company for trading based on positive developments in a genetic sequencing platform.[131]  According to the SEC, the scientist traded during company trading blackouts, in a brokerage account not disclosed to his employer.  He settled the case, agreeing to disgorge approximately $40,000 in profits and paying a similar civil penalty.  In August, the SEC filed suit against a scientist who learned that his healthcare diagnostics company was about to acquire another company in a tender offer.[132]  On the date the acquisition was announced, his company’s stock increased 176%.  As part of the settlement, the scientist agreed to disgorge $14,000 in profits and pay a corresponding civil penalty.  And in a third case, the SEC settled with a scientist at a pharmaceutical company for allegedly trading in advance of positive results of a clinical trial.[133]  The scientist agreed to disgorgement of $134,000, but based on her voluntarily coming forward and reporting her improper trades, the SEC agreed to a reduced penalty of $67,000. The SEC brought charges in August against an in-house attorney for a shipping company who traded on inside information that his company had entered into a strategic partnership with a private equity fund.[134]  As part of a settlement, he was ordered to disgorge nearly $30,000 in profits with a matching civil penalty. And in September, the SEC charged a former professional motorcycle racer handling promotional activities for a beverage company, as well as his father, family friend, and investment adviser, with insider trading for tipping and trading ahead of an impending deal with a large beverage company.[135]  According to the SEC, after the racer had learned a significant deal was imminent, the four individuals collectively purchased over $770,000 in stock and options, in certain instances borrowing funds for the purchases.  Following the announcement, they made over $283,000 in trading profits. Without admitting or denying the findings, the individuals agreed to disgorge ill-gotten gains and to pay civil penalties. B.   Misappropriation by Investment Professionals and Other Advisors Several deal advisors, including bankers, corporate advisors, and accountants, were charged with insider trading by the SEC.  In August, the SEC charged a professional football player and a former investment banker with insider trading in advance of corporate acquisitions.[136]  The SEC alleges that after meeting at a party, the player began receiving illegal tips, facilitated through coded text messages and FaceTime conversations, from the banker about upcoming corporate mergers.  The player allegedly made $1.2 million in illegal profits by purchasing securities in companies that were soon to be acquired, in one instance generating a nearly 400 percent return.  In return, he is alleged to have rewarded the analyst by setting up an online brokerage account that both men could access, by providing cash kickbacks, free NFL tickets, and an evening on the set of a pop star’s music video in which the player made a cameo appearance.  The SEC action is being litigated; both men have pled guilty to related criminal charges.  In November, the SEC also charged a family friend of the banker in connection with the same scheme.[137]  The U.S. Attorney’s Office announced parallel criminal charges against this individual. In September, the SEC filed insider trading charges against a corporate deal advisor for trading in securities of two China-based companies based on confidential information about their impending acquisitions.[138]  According to the SEC, the individual, who had been providing advice to the acquiring companies, opened a brokerage account in his wife’s name and used that account to generate more than $79,500 in trading profits. That same executive later became a director at a Hong Kong-based investment banking firm.  In connection with advising a client on an acquisition of its rival, he was alleged to have again used his wife’s brokerage account to buy high risk call options, which he sold after news of the acquisition for profits of more than $94,400. The case is being litigated. And in December, the SEC charged an individual with misappropriating information from his fiancé, an investment banker working on a merger between two airline companies.[139]   According to the SEC, the trader overheard calls his now-wife made at home on nights and weekends, purchasing call options in the target company and netting approximately $250,000 in profits.  Without admitting or denying liability, the trader agreed to disgorge his profits and pay a matching penalty. Also in December, the SEC alleged that an IT contractor working at an investment bank had traded, and tipped his wife and father, based on information he’d learned from the bank.[140] According to the SEC, the three collectively reaped approximately $600,000 in profits by trading in advance of at least 40 corporate events.  The SEC obtained a court-ordered freeze of assets in multiple brokerage accounts connected to the alleged trading. The SEC brought several cases against accountants and their tippees.  In August, the SEC brought a settled action against a CPA who learned of an acquisition through his work as an accountant providing tax advice to a private company owned by a member of one of the companies.[141]  The individual agreed to disgorge his profits of approximately $8,000 and pay a matching civil penalty. Also that month, the SEC sued a former director of a major accounting and auditing firm for trading ahead of a merger between two of the firm’s clients.[142]  According to the SEC, after learning of the planned merger, the director used a relative’s account to purchase call options, which increased in value by about $150,000 following announcement of the merger.  Though the director later allowed the options to expire without selling or exercising them, he did not inform his employer that he controlled the account when the relative’s name appeared on a list of individuals in connection with a FINRA investigation into suspect trading.  Without admitting liability, the director agreed to pay a $150,500 penalty and to be barred from appearing and practicing before the SEC as an accountant for two years. The SEC brought several other cases involving misappropriation by industry professionals.  In July 2018, the SEC settled charges against a broker who traded ahead of a multi-billion dollar acquisition.[143]  According to the SEC, the broker misappropriated the information from a friend who was a certified public accountant providing personal tax advice to a senior executive at the company being acquired, and who had shared the information in confidence.  Without admitting liability, he agreed to disgorgement of his nearly $90,000 in profits, a comparable civil penalty, and debarment from being a broker.  And in September, the SEC settled a claim against a CPA and a doctor for allegedly trading while in possession of confidential information regarding an impending acquisition.[144]  According to the SEC, the CPA misappropriated the information from a friend who worked at one of the companies. The SEC alleges that after the CPA shared the information with the doctor, both purchased call options in the target company.  Both the CPA and doctor agreed to pay disgorgement and civil penalties. VI.   Municipal Securities and Public Finance Cases With the SEC’s Municipalities Continuing Disclosure (MCDC) Initiative (which as noted above generated  a significant number of cases) completed, the SEC’s Public Finance Abuse Unit returned to its traditionally slower pace, filing just a few cases in the latter half of the year. In August, the SEC charged two firms and 18 individuals with participating in a municipal bond “flipping” scheme (i.e. improperly obtaining new bond allocations from brokers and reselling to broker-dealers for a fee.[145]  According to the SEC, the firms and their principals used false identities to pose as retail investors in order to receive priority from the bond underwriters, and then resold the bonds to brokers for a pre-arranged commission.  The SEC also charged a municipal underwriter with taking kickbacks as part of the scheme.  Most of the parties settled (with sanctions including disgorgement, penalties, and industry bars and suspensions), but aspects of the case are being litigated as well.  The SEC filed another settled case for municipal bond flipping in December.[146] In September, the SEC instituted a settled action against a municipal adviser and its principal for failing to register as municipal advisor and failing to disclose its nonregistration to a school district to which it provided services.[147]  The firm and its principal agreed to pay about $50,000 in disgorgement and penalties, and the principal agreed to be barred from the securities industry. [1]      Admin. Proc. File No. 3-18965, In re Hertz Global Holdings, Inc. (Dec. 31, 2018), available at www.sec.gov/litigation/admin/2018/33-10601.pdf. [2]      Admin. Proc. File No. 3-18966, In re Katz, Sapper & Miller, LLP (Jan. 9, 2019), available at www.sec.gov/litigation/admin/2019/34-84980.pdf. [3]      See SEC Press Release, SEC Enforcement Division Issues Report on FY 2018 Results (Nov. 2, 2018), available at www.sec.gov/news/press-release/2018-250; and accompanying Annual Report at www.sec.gov/files/enforcement-annual-report-2018.pdf. [4]      For more on Kokesh, see Gibson Dunn Client Alert, United States Supreme Court Limits SEC Power to Seek Disgorgement Based on Stale Conduct (June 5, 2017), available at www.gibsondunn.com/united-states-supreme-court-limits-sec-power-to-seek-disgorgement-based-on-stale-conduct/. [5]      For more on Lucia, see Gibson Dunn Client Alert, Supreme Court Rules That SEC ALJs Were Unconstitutionally Appointed (June 21, 2018), available at www.gibsondunn.com/supreme-court-rules-that-sec-aljs-were-unconstitutionally-appointed. [6]      Whistleblower Program, 2018 Annual Report to Congress, available at www.sec.gov/files/sec-2018-annual-report-whistleblower-program.pdf. [7]      SEC Press Release, SEC Awards more Than $54 Million to Two Whistleblowers (Sept. 6, 2018), available at www.sec.gov/news/press-release/2018-179. [8]      SEC Press Release, Whistleblower Receives Award of Approximately $1.5 Million (Sept. 14, 2018), available at www.sec.gov/news/press-release/2018-194. [9]      SEC Press Release, SEC Awards Almost $4 Million to Overseas Whistleblower (Sept. 24, 2018), available at www.sec.gov/news/press-release/2018-209. [10]     SEC Press Release, SEC Charges Firm with Deficient Cybersecurity Procedures (Sept. 26, 2018), available at www.sec.gov/news/press-release/2018-213. [11]     SEC Press Release, SEC Investigative Report: Public Companies Should Consider Cyber Threats When Implementing Internal Controls (Oct. 16, 2018), available at www.sec.gov/news/press-release/2018-236. [12]     For further discussion, see Gibson Dunn Client Alert, SEC Warns Public Companies on Cyber-Fraud Controls (Oct. 27, 2018), available at www.gibsondunn.com/sec-warns-public-companies-on-cyber-fraud-controls/. [13]     SEC Press Release, SEC Charges ICO Superstore and Owners with Operating as Unregistered Broker-Dealers (Sept. 11, 2018), available at www.sec.gov/news/press-release/2018-185. [14]     SEC Press Release, SEC Charges Digital Asset Hedge Fund Manager with Misrepresentations and Registration Failures (Sept. 11, 2018), available at www.sec.gov/news/press-release/2018-186. [15]     SEC Press Release, SEC Charges EtherDelta Founder with Operating an Unregistered Exchange (Nov. 8, 2018), available at www.sec.gov/news/press-release/2018-258. [16]     SEC Press Release, Two ICO Issuers Settle SEC Registration Charges, Agree to Register Tokens as Securities (Nov. 16, 2018), available at www.sec.gov/news/press-release/2018-264. [17]     Admin. Proc. File No. 3-18906, In re Floyd Mayweather Jr. (Nov. 29, 2018), available at www.sec.gov/litigation/admin/2018/33-10578.pdf; SEC Admin. Proc. File No. 3-18907, In re Khaled Khaled (Nov. 29, 2018), available at www.sec.gov/litigation/admin/2018/33-10579.pdf. [18]     SEC Press Release, SEC Suspends Trading in Company for Making False Cryptocurrency-Related Claims about SEC Regulation and Registration (Oct. 22, 2018), available at www.sec.gov/news/press-release/2018-242. [19]     SEC Press Release, SEC Stops Fraudulent ICO That Falsely Claimed SEC Approval (Oct. 11, 2018), available at www.sec.gov/news/press-release/2018-232. [20]     R. Todd, Judge to SEC: You Haven’t Shown This ICO Is a Security Offering, The Recorder (Nov. 27, 2018), available at www.law.com/therecorder/2018/11/27/judge-to-sec-this-ico-isnt-a-security-offering/. [21]     SEC Press Release, SEC Charges Bitcoin-Funded Securities Dealer and CEO (Sept. 27, 2018), available at www.sec.gov/news/press-release/2018-218. [22]     Admin. Proc. File No. 3-18582, SEC Charges Pipe Manufacturer and Former CFO with Reporting and Accounting Violations (July 10, 2018), available at www.sec.gov/enforce/33-10517-s. [23]     SEC Press Release, SEC Charges Telecommunications Expense Management Company with Accounting Fraud (Sept. 4, 2018), available at www.sec.gov/news/press-release/2018-175. [24]     SEC Litigation Release, SEC Charges Outsourced CFO with Accounting Controls Deficiencies (Sept. 12, 2018), available at www.sec.gov/litigation/litreleases/2018/lr24265.htm.  [25]     SEC Press Release, Business Services Company and Former CFO Charged With Accounting Fraud (Sept. 20, 2018), available at www.sec.gov/news/press-release/2018-205. [26]     Admin. Proc. File No. 3-18816, Pipeline Construction Company Settles Charges Relating to Internal Control Failures (Sept. 21, 2018), available at www.sec.gov/enforce/34-84251-s. [27]     SEC Press Release, SEC Charges Salix Pharmaceuticals and Former CFO With Lying About Distribution Channel (Sept. 28, 2018), available at www.sec.gov/news/press-release/2018-221. [28]     Admin. Proc. File No. 3-18891, Tobacco Company Settles Accounting and Internal Control Charges (Nov. 9, 2016), available at www.sec.gov/enforce/34-84562-s.  For a description of the company’s remedial measures, see www.sec.gov/litigation/admin/2018/34-84562.pdf.  [29]     SEC Press Release, SEC Charges Agria Corporation and Executive Chairman With Fraud (Dec. 10, 2018), available at www.sec.gov/news/press-release/2018-276. [30]     SEC Press Release, SEC Charges The Hain Celestial Group with Internal Controls Failures (Dec. 11, 2018), available at www.sec.gov/news/press-release/2018-277. [31]     Admin. Proc. File No. 3-18932, SEC Charges Santander Consumer for Accounting and Internal Control Failures (Dec. 17, 2018), available at www.sec.gov/enforce/34-84829-s. [32]     SEC Press Release, Public Companies Charged with Failing to Comply with Quarterly Reporting Obligations (Sept. 21, 2018), available at www.sec.gov/news/press-release/2018-207. [33]     SEC Press Release, SEC Charges KBR for Inflating Key Performance Metric and Accounting Controls Deficiencies (July 2, 2018), available at www.sec.gov/news/press-release/2018-127. [34]     SEC Press Release, SEC Charges Cloud Communications Company and Two Senior Executives With Misleading Revenue Projections (Aug. 7, 2018), available at www.sec.gov/news/press-release/2018-150. [35]     SEC Press Release, SEC Charges Former Online Marketing Company Executives With Inflating Operating Metrics (Aug. 21, 2018), available at www.sec.gov/news/press-release/2018-161. [36]     Admin. Proc. File No. 3-18819, SEC Charges Payment Processing Company and Former CEO for Overstating Key Operating Metric (Sept. 21, 2018), available at www.sec.gov/enforce/33-10558-s. [37]     Admin. Proc. File No. 3-18955, In re ADT Inc. (Dec. 26, 2018), available at www.sec.gov/litigation/admin/2018/34-84956.pdf. [38]     Admin. Proc. File No. 3-18570, Dow Chemical Agrees to $1.75 Million Penalty and Independent Consultant for Failing to Disclose Perquisites (July 2, 2018), available at www.sec.gov/enforce/34-83581-s. [39]     SEC Press Release, SEC Charges Oil Company CEO, Board Member With Hiding Personal Loans (July 16, 2018), available at www.sec.gov/news/press-release/2018-133. [40]     SEC Litigation Release, SEC Charges Real Estate Investment Funds and Executives for Misleading Investors (July 3, 2018), available at www.sec.gov/litigation/litreleases/2018/lr24185.htm. [41]     Admin. Proc. File No. 3-18770, SEC Charges Arizona Company And Two Senior Executives In Connection With Misleading Disclosures About Material Contract (Sept. 17, 2018), available at www.sec.gov/enforce/33-10550-s. [42]     SEC Press Release, SeaWorld and Former CEO to Pay More Than $5 Million to Settle Fraud Charges (Sept. 18, 2018), available at www.sec.gov/news/press-release/2018-198. [43]     SEC Press Release, Biopharmaceutical Company, Executives Charged With Misleading Investors About Cancer Drug (Sept. 18, 2018), available at www.sec.gov/news/press-release/2018-199. [44]     SEC Press Release, SEC Charges Walgreens and Two Former Executives With Misleading Investors About  Forecasted Earnings Goal (Sept. 28, 2018), available at www.sec.gov/news/press-release/2018-220. [45]     SEC Press Release, Elon Musk Settles SEC Fraud Charges; Tesla Charged With and Resolves Securities Law Charge (Sept. 29, 2018), available at www.sec.gov/news/press-release/2018-226. [46]     Admin. Proc. File No. 3-18838, In re Lichter, Yu and Associates, Inc. et al. (Sept. 25, 2018), available at www.sec.gov/litigation/admin/2018/34-84281.pdf. [47]     SEC Press Release, SEC Suspends Former BDO Accountants for Improperly “Predating” Audit Work Papers (Oct. 12, 2018), available at www.sec.gov/news/press-release/2018-235. [48]     SEC Press Release, SEC Charges Audit Firm and Suspends Accountants for Deficient Audits (Dec. 21, 2018), available at www.sec.gov/news/press-release/2018-302. [49]     Admin. Proc. File No. 3-18856, SEC Charges Drone Seller for Failing to Ensure Accuracy of Financial Statement in Advance of Planned IPO (Sept. 28, 2018), available at www.sec.gov/enforce/33-10564-s. [50]     SEC Litigation Release, SEC Charges Medical Aesthetics Company and Its Former CEO with Misleading Investors in a $60 Million Stock Offering (Sept. 19, 2018), available at www.sec.gov/litigation/litreleases/2018/lr24275.htm. [51]     SEC Press Release, SEC Charges Giga Entertainment Media, Former Officers and Directors with Fraud in Pay-For-Download Campaign (Nov. 15, 2018), available at www.sec.gov/news/press-release/2018-263. [52]     Admin. Proc. File No. 3-18901, SEC Charges San Jose Investment Adviser for Overcharging Fees (Nov. 19, 2018), available at www.sec.gov/enforce/ia-5065-s. [53]     Admin. Proc. File No. 3-18909, Investment Adviser Settles Charges Related to Expense Misallocation and Valuation Review Failures (Dec. 3, 2018), available at www.sec.gov/enforce/33-10581-s. [54]     Admin. Proc. File No. 3-18926, SEC Charges Milwaukee-Based Advisory Firm for Receiving Undisclosed Compensation on Client Transactions (Dec. 12, 2018), available at www.sec.gov/enforce/34-84807-s. [55]     Admin. Proc. File No. 3-18935, SEC Charges Private Equity Fund Adviser for Overcharging Expenses (Dec. 17, 2018), available at www.sec.gov/enforce/ia-5079-s. [56]     Admin. Proc. File No. 3-18930, SEC Settles with Investment Adviser Who Failed to Disclose Conflicts of Interest and Misallocated Expenses (Dec. 13, 2018), available at www.sec.gov/enforce/ia-5074-s. [57]     Admin Proc. File No. 3-18958, In re Lightyear Capital LLC (Dec. 26, 2018), available at www.sec.gov/litigation/admin/2018/ia-5096.pdf. [58]     Admin. Proc. File No. 3-18638, SEC Charges Investment Adviser for Compliance Failures Relating to Wrap Fee Programs (Aug. 14, 2018), available at www.sec.gov/enforce/ia-4984-s. [59]     Admin. Proc. File No. 3-18730, SEC Charges Investment Adviser for Failing to Fully Disclose Affiliate Compensation Arrangement (Sept. 7, 2018), available at www.sec.gov/enforce/ia-5002-s. [60]     Admin. Proc. File No. 3-18604, In re Michael Devlin (July 19, 2018), available at www.sec.gov/litigation/admin/2018/ia-4973.pdf. [61]     SEC Press Release, Merrill Lynch Settles SEC Charges of Undisclosed Conflict in Advisory Decision (Aug. 20, 2018), available at www.sec.gov/news/press-release/2018-159. [62]     SEC Press Release, SEC Charges Investment Adviser and CEO with Misleading Retail Investors (July 18, 2018), available at www.sec.gov/news/press-release/2018-137. [63]     Admin. Proc. File No. 3-18649, In re Roger T. Denha (Aug. 17, 2018), available at www.sec.gov/litigation/admin/2018/34-83873.pdf; Admin. Proc. File No. 3-18648, In re BKS Advisors LLC (Aug. 17, 2018), available at www.sec.gov/litigation/admin/2018/ia-4987.pdf. [64]     SEC Litigation Release, SEC Charges Investment Adviser and Senior Officers with Defrauding Clients (Sept. 20, 2018), available at www.sec.gov/litigation/litreleases/2018/lr24278.htm. [65]     Admin. Proc. File No. 3-18724, In re Mark R. Graham et al. (Sept. 6, 2018), available at www.sec.gov/litigation/admin/2018/ia-5000.pdf. [66]     SEC Litigation Release, SEC Charges Hedge Fund Adviser with Short-And-Distort Scheme (Sept. 13, 2018), available at www.sec.gov/litigation/litreleases/2018/lr24267.htm. [67]     SEC Press Release, SEC Charges LendingClub Asset Management and Former Executives With Misleading Investors and Breaching Fiduciary Duty (Sept. 28, 2018), available at www.sec.gov/news/press-release/2018-223. [68]     Admin. Proc. File No. 3-18912, In re KCAP Financial, Inc. (Dec. 4, 2018), available at www.sec.gov/litigation/admin/2018/34-84718.pdf. [69]     Admin. Proc. File No. 3-18673, In re First Western Advisors (Aug. 24, 2018), available at www.sec.gov/litigation/admin/2018/34-83934.pdf. [70]     Admin. Proc. File 3-18765, In re Capital Analysts, LLC (Sept. 14, 2018), available at www.sec.gov/litigation/admin/2018/ia-5009.pdf. [71]     Admin. Proc. File No. 3-18952, SEC Charges Tennessee Investment Advisory Firm and Two Advisory Representatives with Steering Clients to Higher-Fee Mutual Fund Share Classes (Dec. 21, 2018), available at www.sec.gov/enforce/34-84918-s. [72]     SEC Press Release, Two Advisory Firms, CEO Charged With Mutual Fund Share Class Disclosure Violations (Dec. 21, 2018), available at www.sec.gov/news/press-release/2018-303. [73]     Admin. Proc. File No. 3-18607, SEC Charges Beverly Hills Investment Adviser for Improper Fees and False Filings (July 20, 2018), available at www.sec.gov/enforce/ia-4975-s. [74]     Admin. Proc. File No. 3-18657, In re Aria Partners GP, LLC (Aug. 22, 2018), available at www.sec.gov/litigation/admin/2018/ia-4991.pdf. [75]     SEC Press Release, Transamerica Entities to Pay $97 Million to Investors Relating to Errors in Quantitative Investment Models (Aug. 27, 2018), available at www.sec.gov/news/press-release/2018-167. [76]     SEC Press Release, SEC Charges Buffalo Advisory Firm and Principal With Fraud Relating to Association With Barred Adviser (Aug. 30, 2018), available at www.sec.gov/news/press-release/2018-172.  [77]     Admin. Proc. File No. 3-18704, In re Mass. Financial Services Co. (Aug. 31, 2018), available at www.sec.gov/litigation/admin/2018/ia-4999.pdf. [78]     Admin. Proc. File No 3-18729, In re VSS Fund Mmgt. LLC and Jeffrey T. Stevenson (Sept. 7, 2018), available at www.sec.gov/litigation/admin/2018/ia-5001.pdf. [79]     SEC Press Release, SEC Charges Investment Advisers With Defrauding Retail Advisory Clients (Sept. 14, 2018), available at www.sec.gov/news/press-release/2018-195. [80]     Admin. Proc. File No. 3-18948, In re Sterling Global Strategies LLC (Dec. 20, 2018), available at www.sec.gov/litigation/admin/2018/ia-5085.pdf. [81]     SEC Press Release, SEC Charges Two Robo-Advisers With False Disclosures (Dec. 21, 2018), available at www.sec.gov/news/press-release/2018-300. [82]     SEC Press Release, SEC Charges Ameriprise Financial Services for Failing to Safeguard Client Assets (Aug. 15, 2018), available at www.sec.gov/news/press-release/2018-154. [83]     Admin. Proc. File No. 3-18884, SEC Charges Advisory Firm With Due Diligence and Monitoring Failures (Nov. 6, 2018), available at www.sec.gov/enforce/ia-5061-s. [84]     Admin. Proc. File No. 3-18636, SEC Charges Investment Adviser With Mispricing Cross Trades Between Clients (Aug. 10, 2018), available at www.sec.gov/enforce/ia-4983-s. [85]     Admin. Proc. File No. 3-18767, In re Cushing Asset Management, LP (Sept. 14, 2018), available at www.sec.gov/litigation/admin/2018/ic-33226.pdf. [86]     Admin. Proc. File No. 3-18844, SEC Orders Putnam to Pay $1 Million Penalty, Suspends and Fines Former Portfolio Manager for Prearranged Cross-Trades (Sept. 27, 2018), available at www.sec.gov/enforce/ia-5050-s. [87]     Admin. Proc. File Nos. 3-18586, 3-18587, 3-18588, 3-18589, 3-18590, SEC Charges Investment Advisers and Representatives for Violating the Testimonial Rule Using Social Media and the Internet (July 10, 2018), available at www.sec.gov/enforce/3-18586-90-s. [88]     Admin. Proc. File No. 3-18779, Investment Adviser and Its President Settle Charges for Testimonial Rule and Code of Ethics Violations (Sept. 18, 2018), available at www.sec.gov/enforce/ia-5035-s. [89]     Admin. Proc. File No. 3-18585, In re Oaktree Capital Management, L.P. (July 10, 2018), available at www.sec.gov/litigation/admin/2018/ia-4960.pdf. [90]     Admin. Proc. File No. 3-18584, In re EnCap Investments L.P. (July 10, 2018), available at www.sec.gov/litigation/admin/2018/ia-4959.pdf.    [91]     Admin. Proc. File No. 3-18599, Investment Adviser Settles Charges for Custody Rule Violations (July 17, 2018), available at www.sec.gov/enforce/ia-4970-s. [92]     Admin. Proc. File No. 3-18837, Investment Adviser Settles Charges for Custody Rule and Compliance Rule Violations (Sept. 25, 2018), available at www.sec.gov/enforce/ia-5047-s. [93]     SEC Press Release, Deutsche Bank to Pay Nearly $75 Million for Improper Handling of ADRs (Jul. 20, 2018), available at www.sec.gov/news/press-release/2018-138. [94]     SEC Press Release, SG Americas Securities Charged for Improper Handling of ADRs (Sept. 25, 2018), available at www.sec.gov/news/press-release/2018-211. [95]     SEC Press Release, Citibank to Pay More Than $38 Million for Improper Handling of ADRs (Nov. 7, 2018), available at www.sec.gov/news/press-release/2018-255. [96]     Admin. Proc. File No. 3-18933, In re Bank of New York Mellon (Dec. 17, 2018), available at www.sec.gov/litigation/admin/2018/33-10586.pdf. [97]     SEC Press Release, JPMorgan to Pay More Than $135 Million for Improper Handling of ADRs (Dec. 26, 2018), available at www.sec.gov/news/press-release/2018-306. [98]     SEC Press Release, SEC Charges Mizuho Securities for Failure to Safeguard Customer Information (Jul. 23, 2018), available at www.sec.gov/news/press-release/2018-140. [99]     SEC Press Release, SEC Obtains Relief to Fully Reimburse Retail Investors Sold Unsuitable Product (Sept. 11, 2018), available at www.sec.gov/news/press-release/2018-184. [100]   SEC Press Release, Citigroup to Pay More Than $10 Million for Books and Records Violations and Inadequate Controls (Aug. 16, 2018), available at www.sec.gov/news/press-release/2018-155-0. [101]   SEC Press Release, SEC Charges Moody’s With Internal Controls Failures and Ratings Symbols Deficiencies (Aug. 28, 2018), available at www.sec.gov/news/press-release/2018-169. [102]   SEC Litigation Release, SEC Charges Charles Schwab with Failing to Report Suspicious Transactions (Jul. 9, 2018), available at www.sec.gov/litigation/litreleases/2018/lr24189.htm. [103]   Admin. Proc. File No. 3-18829, In the Matter of TD Ameritrade, Inc. (Sept. 24, 2018), available at www.sec.gov/litigation/admin/2018/34-84269.pdf. [104]   SEC Press Release, Brokerage Firm to Exit Penny stock Deposit Business and Pay Penalty for Repeatedly Failing to Report Suspicious Trading (Sept. 28, 2018), available at www.sec.gov/news/press-release/2018-225. [105]   Admin. Proc. File No. 3-18931, SEC Charges UBS Financial Services Inc. with Anti-Money Laundering Violations (Dec. 17, 2018), available at www.sec.gov/enforce/34-84828-s. [106]   Admin. Proc. File No. 30-18940, Broker-Dealer Settles Anti-Money Laundering Charges (Dec. 19, 2018), available at www.sec.gov/enforce/34-84851-s. [107]   SEC Press Release, SEC Charges Citigroup for Dark Pool Misrepresentations (Sept. 14, 2018), available at www.sec.gov/news/press-release/2018-193. [108]   SEC Press Release, Credit Suisse Agrees to Pay $10 Million to Settle Charges Related to Handling of Retail Customer Orders (Sept. 28, 2018), available at www.sec.gov/news/press-release/2018-224. [109]   SEC Press Release, SEC Charges ITG With Misleading Dark Pool Subscribers (Nov. 7, 2018), available at www.sec.gov/news/press-release/2018-256. [110]   SEC Press Release, SEC Charges BCG Financial for Failure to Preserve Documents and Maintain Accurate Books and Records (Jul. 17, 2018), available at www.sec.gov/news/press-release/2018-134. [111]   SEC Press Release, Broker-Dealer to Pay $2.75 Million Penalty for Providing Deficient Blue Sheet Data (Sept. 13, 2018), available at www.sec.gov/news/press-release/2018-191. [112]   SEC Press Release, Three Broker-Dealers to Pay More Than $6 Million in Penalties for Providing Deficient Blue Sheet Data (Dec. 10, 2018), available at www.sec.gov/news/press-release/2018-275. [113]   SEC Press Release, SEC Charges Two Brokers With Defrauding Customers (Sept. 10, 2018), available at www.sec.gov/news/press-release/2018-183. [114]   SEC Press Release, SEC Uses Data Analysis to Detect Cherry-Picking By Broker (Sept. 12, 2018), available at www.sec.gov/news/press-release/2018-189. [115]   Admin. Proc. File No. 3-18941, In the Matter of Andrew Nicoletta et al. (Dec. 19, 2018), available at www.sec.gov/litigation/admin/2018/34-84876.pdf. [116]   SEC Litigation Release, SEC Charges Former Heartland CEO, Romantic Partner in Insider Trading Scheme (Jul. 10, 2018), available at www.sec.gov/litigation/litreleases/2018/lr24191.htm. [117]   SEC Litigation Release, SEC Charges Former Executive for Insider Trading (Jul. 5, 2018), available at www.sec.gov/litigation/litreleases/2018/lr24186.htm. [118]   SEC Press Release, SEC Detects Silicon Valley Executive’s Insider Trading (Jul. 24, 2018), available at www.sec.gov/news/press-release/2018-142. [119]   Admin. Proc. File No. 3-18618, SEC Charges VP of Finance with Insider Trading (Jul. 31, 2018), available at www.sec.gov/enforce/34-83742-s. [120]   SEC Litigation Release, SEC Charges Former Pharma Executive and Others with Insider Trading (Aug. 23, 2018), available at www.sec.gov/litigation/litreleases/2018/lr24245.htm. [121]   Admin. Proc. File No. 3-18665, In re James T. Lentz (Aug. 22, 2018), available at www.sec.gov/litigation/admin/2018/33-10535.pdf. [122]   SEC Litigation Release, SEC Charges Former Senior Executive At Silicon Valley Company with Insider Trading (Aug. 30, 2018), available at www.sec.gov/litigation/litreleases/2018/lr24251.htm. [123]   SEC Litigation Release, SEC Charges Former Vice President of Ocwen Financial Corporation with Insider Trading (Sept. 28, 2018), available at www.sec.gov/litigation/litreleases/2018/lr24298.htm. [124]   SEC Litigation Release, SEC Charges Ebay’s Former Director of SEC Reporting with Insider Trading (Oct. 16, 2018), available at www.sec.gov/litigation/litreleases/2018/lr24317.htm. [125]   SEC Litigation Release, SEC Charges Husband with Insider Trading Ahead of Announcements by Wife’s Employer (Nov. 8, 2018), available at www.sec.gov/litigation/litreleases/2018/lr24340.htm. [126]   SEC Litigation Release, SEC Charges California Software Consultant with Insider Trading (Nov. 8, 2018), available at www.sec.gov/litigation/litreleases/2018/lr24338.htm. [127]   SEC Press Release, SEC Charges U.S. Congressman and Others With Insider Trading (Aug. 8, 2018), available at www.sec.gov/news/press-release/2018-151; see also SEC Litigation Release, SEC Announces Settlement with Two Traders in Innate Insider Trading Case (Aug. 16, 2018), available at www.sec.gov/litigation/litreleases/2018/lr24236.htm. [128]   Admin. Proc. File No. 34-83795, SEC Charges California Bank Board Member’s Son with Insider Trading (Aug. 7, 2018), available at www.sec.gov/enforce/34-83795-s. [129]   SEC Litigation Release, SEC Charges Former Stericycle Financial Analyst and His Mother with Insider Trading (Jul. 24, 2018), available at www.sec.gov/litigation/litreleases/2018/lr24212.htm. [130]   SEC Litigation Release, Former Equifax Manager Charged With Insider Trading (Jul. 2, 2018), available at www.sec.gov/litigation/litreleases/2018/lr24183.htm. [131]   SEC Litigation. Release, Former Biotech Company Employee Charged with Insider Trading (Jul. 10, 2018), available at www.sec.gov/litigation/litreleases/2018/lr24194.htm. [132]   SEC Litigation Release, SEC Charges Scientist for Insider Trading (Aug. 1, 2018), available at www.sec.gov/litigation/litreleases/2018/lr24221.htm. [133]   Admin. Proc. File No. 3-18645, In re Honglan Wang (Aug. 16, 2018), available at www.sec.gov/litigation/admin/2018/34-83857.pdf. [134]   Admin. Proc. File No. 3-18655, SEC Charges Former In-House Counsel with Insider Trading (Aug. 21, 2018), available at www.sec.gov/enforce/34-83896-s. [135]   SEC Press Release, SEC Charges Former Professional Motorcycle Racer, his Investment Adviser, and Others With Insider Trading (Sept. 27, 2018), available at www.sec.gov/enforce/34-84304-s. [136]   SEC Press Release, SEC Charges NFL Player and Former Investment Banker With Insider Trading (Aug. 29, 2018), available at www.sec.gov/news/press-release/2018-170. [137]   SEC Press Release, SEC Charges Family Friend of Former Investment Banker With Insider Trading (Nov. 2, 2018), available at www.sec.gov/news/press-release/2018-251. [138]   SEC Litigation Release, SEC Charges Acquisition Advisor with Insider Trading (Sept. 14, 2018), available at www.sec.gov/litigation/litreleases/2018/lr24269.htm. [139]   SEC Litigation Release, SEC Charges Husband of Investment Banker with Insider Trading (Dec. 17, 2018), available at www.sec.gov/litigation/litreleases/2018/lr24375.htm. [140]   SEC Press Release, SEC Halts Alleged Insider Trading Ring Spanning Three Countries (Dec. 6, 2018), available at www.sec.gov/news/press-release/2018-273. [141]   SEC Litigation Release, SEC Charges Certified Public Accountant with Insider Trading (Aug. 21, 2018), available at www.sec.gov/litigation/litreleases/2018/lr24240.htm. [142]   Admin. Proc. File No. 3-18652, Former Director At Major Accounting Firm Settles Insider Trading Charges (Aug. 20, 2018), available at www.sec.gov/enforce/34-83889-s. [143]   Admin. Proc. File No. 3-18574, In re Michael Johnson (July 6, 2018), available at www.sec.gov/litigation/admin/2018/34-83602.pdf. [144]   Admin. Proc. File No. 3-18858, In re Unal Patel (Sept. 28, 2018), available at www.sec.gov/litigation/admin/2018/34-84315.pdf. [145]   SEC Press Release, SEC Files Charges in Municipal Bond “Flipping” and Kickback Schemes (Aug. 14, 2018), available at www.sec.gov/news/press-release/2018-153. [146]   Admin. Proc. File No. 3-18936, SEC Charges Former Municipal Bond Salesman with Fraudulent Trading Practices (Dec. 18, 2018), available at www.sec.gov/enforce/33-10587-s. [147]   Admin. Proc. File No. 3-18803, SEC Bars Head of Unregistered Municipal Advisory Firm for Failing to Disclose Material Facts to School District (Sept. 20, 2018), available at www.sec.gov/enforce/34-84224-s. The following Gibson Dunn lawyers assisted in the preparation of this client update:  Marc Fagel, Amy Mayer, Andrew Paulson, Tina Samanta, Elizabeth Snow, Craig Streit, Collin James Vierra, Timothy Zimmerman and Maya Ziv. Gibson Dunn is one of the nation’s leading law firms in representing companies and individuals who face enforcement investigations by the Securities and Exchange Commission, the Department of Justice, the Commodities Futures Trading Commission, the New York and other state attorneys general and regulators, the Public Company Accounting Oversight Board (PCAOB), the Financial Industry Regulatory Authority (FINRA), the New York Stock Exchange, and federal and state banking regulators. Our Securities Enforcement Group offers broad and deep experience.  Our partners include the former Directors of the SEC’s New York and San Francisco Regional Offices, the former head of FINRA’s Department of Enforcement, the former United States Attorneys for the Central and Eastern Districts of California, and former Assistant United States Attorneys from federal prosecutors’ offices in New York, Los Angeles, San Francisco and Washington, D.C., including the Securities and Commodities Fraud Task Force. Securities enforcement investigations are often one aspect of a problem facing our clients. Our securities enforcement lawyers work closely with lawyers from our Securities Regulation and Corporate Governance Group to provide expertise regarding parallel corporate governance, securities regulation, and securities trading issues, our Securities Litigation Group, and our White Collar Defense Group. Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding these developments. Please contact the Gibson Dunn lawyer with whom you usually work or any of the following: New York Reed Brodsky (+1 212-351-5334, rbrodsky@gibsondunn.com) Joel M. Cohen (+1 212-351-2664, jcohen@gibsondunn.com) Lee G. Dunst (+1 212-351-3824, ldunst@gibsondunn.com) Barry R. Goldsmith (+1 212-351-2440, bgoldsmith@gibsondunn.com) Laura Kathryn O’Boyle (+1 212-351-2304, loboyle@gibsondunn.com) Mark K. Schonfeld (+1 212-351-2433, mschonfeld@gibsondunn.com) Alexander H. Southwell (+1 212-351-3981, asouthwell@gibsondunn.com) Avi Weitzman (+1 212-351-2465, aweitzman@gibsondunn.com) Lawrence J. Zweifach (+1 212-351-2625, lzweifach@gibsondunn.com) Tina Samanta (+1 212-351-2469 , tsamanta@gibsondunn.com) Washington, D.C. Stephanie L. Brooker (+1 202-887-3502, sbrooker@gibsondunn.com) Daniel P. Chung(+1 202-887-3729, dchung@gibsondunn.com) Stuart F. Delery (+1 202-887-3650, sdelery@gibsondunn.com) Richard W. Grime (+1 202-955-8219, rgrime@gibsondunn.com) Patrick F. Stokes (+1 202-955-8504, pstokes@gibsondunn.com) F. Joseph Warin (+1 202-887-3609, fwarin@gibsondunn.com) San Francisco Winston Y. Chan (+1 415-393-8362, wchan@gibsondunn.com) Thad A. Davis (+1 415-393-8251, tadavis@gibsondunn.com) Marc J. Fagel (+1 415-393-8332, mfagel@gibsondunn.com) Charles J. Stevens (+1 415-393-8391, cstevens@gibsondunn.com) Michael Li-Ming Wong (+1 415-393-8234, mwong@gibsondunn.com) Palo Alto Michael D. Celio (+1 650-849-5326, mcelio@gibsondunn.com) Paul J. Collins (+1 650-849-5309, pcollins@gibsondunn.com) Benjamin B. Wagner (+1 650-849-5395, bwagner@gibsondunn.com) Denver Robert C. Blume (+1 303-298-5758, rblume@gibsondunn.com) Monica K. Loseman (+1 303-298-5784, mloseman@gibsondunn.com) Los Angeles Michael M. Farhang (+1 213-229-7005, mfarhang@gibsondunn.com) Douglas M. Fuchs (+1 213-229-7605, dfuchs@gibsondunn.com) © 2019 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

January 9, 2019 |
The Most Notable Government Contract Cost and Pricing Decisions of 2018

Washington, D.C. partner Karen Manos is the author of “The Most Notable Government Contract Cost and Pricing Decisions of 2018,” [PDF] published in Thomson Reuters’ The Government Contractor on January 9, 2019.

November 29, 2018 |
SEC Imposes Civil Penalties for ICO Registration Violations; Suggests a Path for Future Compliance

Click for PDF On November 16, 2018, the Securities and Exchange Commission (SEC) announced settled charges in its first cases imposing civil penalties solely for registration violations related to initial coin offerings (ICOs).[1]  The SEC brought charges against CarrierEQ Inc. (AirFox) and Paragon Coin Inc. (Paragon) for their respective ICOs conducted in 2017 on the basis that (i) the digital tokens sold in those ICOs were securities under Section 2(a)(1) of the Securities Act of 1933 (Securities Act) and (ii) those securities were neither registered nor exempt from registration under Section 5 of the Securities Act. Both AirFox and Paragon issued unregistered tokens in spite of an earlier warning from the SEC that certain tokens, coins or other digital assets can be considered securities under the federal securities laws and, consequently, issuers who offer or sell such securities must register the offering and sale with the SEC or qualify for an exemption.[2]  The cases follow the SEC’s first non-fraud registration case, Munchee, Inc., in which the SEC halted a coin sale by means of cease-and-desist order and no monetary penalties were imposed. In 2017, AirFox raised approximately $15 million worth of digital assets to finance its development of a token-denominated “ecosystem,” and Paragon raised approximately $12 million worth of digital assets to develop and implement its business plan related to the cannabis industry. After reviewing the nature of these tokens, the SEC concluded that they were securities under the Howey test, thereby making those offerings subject to the requirements of Section 5 of the Securities Act and related rules. The resolution of these charges has been suggested as a “model for companies that have issued tokens in ICOs . . . to seek to comply with the federal securities laws,” according to Steven Peiken, Co-Director of the SEC’s Enforcement Division.  The remedy has three parts.  First, both Airfox and Paragon agreed to pay monetary penalties of $250,000 each.  Second, in a nod to the statutory remedies provided by Section 12(a)(1) of the Securities Act, both companies agreed to distribute a “claim form” to their respective investors whereby purchased tokens could be exchanged for the amount of consideration paid plus interest and, for those investors no longer in possession of their purchased tokens, damages.  The  “claim form” approach was agreed to over another potential remedy used by other companies in the past, a “rescission offer” in which the companies would offer to repurchase issued tokens and, in the event an investor declined that offer, such investor would hold freely tradable tokens.  Third, perhaps most significantly, both companies agreed to register the tokens as securities under the Exchange Act and file periodic reports with the SEC, thereby granting investors the disclosure protections of the securities laws in deciding whether to put their securities.  It is likely that compliance with this regime will likely impose significant compliance burdens, particularly on smaller issuers.  It remains to be seen whether other ICO issuers who have conducted unregistered securities offerings will opt for this remedy following discussions with the SEC. [1]   See SEC Release No. 10574 and Release No. 10575. [2]   See Report of Investigation Pursuant To Section 21(a) Of The Securities Exchange Act of 1934: The DAO (Exchange Act Rel. No. 81207) (July 25, 2017)). See also www.securitiesregulationmonitor.com/Lists/Posts/Post.aspx?List=f3551fe8-411e-4ea4-830c-d680a8c0da43&ID=297&Web=97364e78-c7b4-4464-a28c-fd4eea1956ac. The following Gibson Dunn lawyers assisted in preparing this client update: Arthur Long, Alan Bannister, Nicolas Dumont, and Jordan Garside. Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding these developments.  Please contact the Gibson Dunn lawyer with whom you usually work in the firm’s Financial Institutions, Capital Markets or Securities Enforcement practice groups, or the following: Financial Institutions and Capital Markets Groups: Arthur S. Long – New York (+1 212-351-2426, along@gibsondunn.com) J. Alan Bannister – New York (+1 212-351-2310, abannister@gibsondunn.com) Nicolas H.R. Dumont – New York (+1 212-351-3837, ndumont@gibsondunn.com) Stewart L. McDowell – San Francisco (+1 415-393-8322, smcdowell@gibsondunn.com) Securities Enforcement Group: Marc J. Fagel – San Francisco (+1 415-393-8332, mfagel@gibsondunn.com) Mark K. Schonfeld – New York (+1 212-351-2433, mschonfeld@gibsondunn.com) © 2018 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

November 29, 2018 |
Five Gibson Dunn Attorneys Named Among Washingtonian Magazine’s 2018 Top Lawyers

Washingtonian magazine named five DC partners to its 2018 Top Lawyers, featuring “[t]he area’s star legal talent” in their respective practice areas: Karen Manos was named a Top Lawyer in Government Contracts – Karen is Chair of the firm’s Government Contracts Practice Group.  She has nearly 30 years’ experience on a broad range of government contracts issues, including civil and criminal fraud investigations and litigation, complex claims preparation and litigation, bid protests, qui tam suits under the False Claims Act, defective pricing, cost allowability, the Cost Accounting Standards, and corporate compliance programs Eugene Scalia was named a Top Lawyer in Employment Defense – Co-Chair of the Administrative Law and Regulatory Practice Group, Gene has a national practice handling a broad range of labor, employment, appellate, and regulatory matters. His success bringing legal challenges to federal agency actions has been widely reported in the legal and business press Jason Schwartz was recognized as a Top Lawyer in Employment Defense – Jason’s practice includes sensitive workplace investigations, high-profile trade secret and non-compete matters, wage-hour and discrimination class actions, Sarbanes-Oxley and other whistleblower protection claims, executive and other significant employment disputes, labor union controversies, and workplace safety litigation F. Joseph Warin is a Top Lawyer in Criminal Defense, White Collar – Co-chair of the firm’s global White Collar Defense and Investigations Practice Group. His practice includes complex civil litigation, white collar crime, and regulatory and securities enforcement – including Foreign Corrupt Practices Act investigations, False Claims Act cases, special committee representations, compliance counseling and class action civil litigation Joseph West was named a Top Lawyer in Government Contracts – Joe concentrates his practice on contract counseling, compliance/enforcement, and dispute resolution.  He has represented both contractors and government agencies, and has been involved in cases before various United States Courts of Appeals and District Courts, the United States Court of Federal Claims, numerous Federal Government Boards of Contract Appeals, and both the United States Government Accountability Office and Small Business Administration The list was published in the December 2018 issue.

November 28, 2018 |
Law360 Names Eight Gibson Dunn Partners as MVPs

Law360 named eight Gibson Dunn partners among its 2018 MVPs and noted that the firm had the most MVPs of any law firms this year.  Law360 MVPs feature lawyers who have “distinguished themselves from their peers by securing hard-earned successes in high-stakes litigation, complex global matters and record-breaking deals.” Gibson Dunn’s MVPs are: Christopher Chorba, a Class Action MVP [PDF] – Co-Chair of the firm’s Class Actions Group and a partner in our Los Angeles office, he defends class actions and handles a broad range of complex commercial litigation with an emphasis on claims involving California’s Unfair Competition and False Advertising Laws, the Consumers Legal Remedies Act, the Lanham Act, and the Class Action Fairness Act of 2005. His litigation and counseling experience includes work for companies in the automotive, consumer products, entertainment, financial services, food and beverage, social media, technology, telecommunications, insurance, health care, retail, and utility industries. Michael P. Darden, an Energy MVP [PDF] – Partner in charge of the Houston office, Mike focuses his practice on international and U.S. oil & gas ventures and infrastructure projects (including LNG, deep-water and unconventional resource development projects), asset acquisitions and divestitures, and energy-based financings (including project financings, reserve-based loans and production payments). Thomas H. Dupree Jr., an MVP in Transportation [PDF] –  Co-partner in charge of the Washington, DC office, Tom has represented clients in a wide variety of trial and appellate matters, including cases involving punitive damages, class actions, product liability, arbitration, intellectual property, employment, and constitutional challenges to federal and state statutes.  He has argued more than 80 appeals in the federal courts, including in all 13 circuits as well as the United States Supreme Court. Joanne Franzel, a Real Estate MVP [PDF] – Joanne is a partner in the New York office, and her practice has included all forms of real estate transactions, including acquisitions and dispositions and financing, as well as office and retail leasing with anchor, as well as shopping center tenants. She also has represented a number of clients in New York City real estate development, representing developers as well as users in various mixed-use projects, often with a significant public/private component. Matthew McGill, an MVP in the Sports category [PDF] – A partner in the Washington, D.C. office, Matt practices appellate and constitutional law. He has participated in 21 cases before the Supreme Court of the United States, prevailing in 16. Spanning a wide range of substantive areas, those representations have included several high-profile triumphs over foreign and domestic sovereigns. Outside the Supreme Court, his practice focuses on cases involving novel and complex questions of federal law, often in high-profile litigation against governmental entities. Mark A. Perry, an MVP in the Securities category [PDF] – Mark is a partner in the Washington, D.C. office and is Co-chair of the firm’s Appellate and Constitutional Law Group.  His practice focuses on complex commercial litigation at both the trial and appellate levels. He is an accomplished appellate lawyer who has briefed and argued many cases in the Supreme Court of the United States. He has served as chief appellate counsel to Fortune 100 companies in significant securities, intellectual property, and employment cases.  He also appears frequently in federal district courts, serving both as lead counsel and as legal strategist in complex commercial cases. Eugene Scalia, an Appellate MVP [PDF] – A partner in the Washington, D.C. office and Co-Chair of the Administrative Law and Regulatory Practice Group, Gene has a national practice handling a broad range of labor, employment, appellate, and regulatory matters. His success bringing legal challenges to federal agency actions has been widely reported in the legal and business press. Michael Li-Ming Wong, an MVP in Cybersecurity and Privacy [PDF] – Michael is a partner in the San Francisco and Palo Alto offices. He focuses on white-collar criminal matters, complex civil litigation, data-privacy investigations and litigation, and internal investigations. Michael has tried more than 20 civil and criminal jury trials in federal and state courts, including five multi-week jury trials over the past five years.

November 26, 2018 |
FERC Issues Proposed Rule on Return of Excess ADITs by Electric Utilities

Click for PDF On November 15, 2018, the Federal Energy Regulatory Commission (“FERC”) issued a Notice of Proposed Rulemaking (“NOPR”) addressing how electric utilities are to modify their cost-based rates to account for the impact of the Tax Cuts and Jobs Act of 2017 on accumulated deferred income taxes (“ADITs”).  FERC’s prior orders related to tax reform had deferred action on how to treat ADITs. FERC-jurisdictional transmission providers have billions of dollars of ADITs recorded on their books and the return of excess ADITs resulting from the Tax Act could return billions of dollars to ratepayers in coming years.  FERC’s rulemaking proceeding should provide guidance on how utilities are to address these ADITs, but the details will likely only be decided in company-specific proceedings initiated in the next year or so. ADITs are values recorded on the books of utilities that arise from the differences between the accelerated rates of depreciation used to calculate federal corporate income taxes and straight-line depreciation used to calculate FERC jurisdictional cost-based rates.  ADITs are generally liabilities that reflect money that will need to be paid to the IRS in the future and are based on an assumption that current income tax rates will remain the same. If federal corporate income tax rates fall, however, the amount the utility will actually need to pay to the IRS in the future is less than what was assumed.  And, as a result, the utility will be viewed as having over-collected from customers in the past.  In accounting parlance, the utility will be considered to have recovered “excess ADITs” through rates that, in the view of many, will need to be returned to customers, lest the utility enjoy a windfall from the tax cut that is not shared with customers. Indeed, this is the view taken by FERC in its NOPR.  It proposes to require utilities with formula transmission rates to adjust their rates to reflect the impact of the Tax Act on ADITs, whether that means returning excess ADITs to ratepayers or collecting deficient ADITs from ratepayers (though the former is likely to eclipse the latter for most utilities). Specifically, FERC proposes requiring such utilities to include a mechanism in their formula transmission rates that deducts any excess ADITs from rate base (or adds any deficient ADITs to rate base).  Notably, FERC states in the NOPR that it does not intend to adopt a “one size fits all” approach.  Instead, it intends to “allow public utilities to propose any necessary changes to their formula rates on an individual basis.” FERC also proposes that these utilities include a mechanism to decrease (or increase) any income tax allowances—i.e., a mechanism that provides for the return to or collection of excess or deficient ADITs from ratepayers over time.  In keeping with its approach of allowing flexibility, FERC does not propose any specific period of time but, instead, states that a “case-by-case approach to amortizing excess or deficient unprotected ADIT remains appropriate.”  Following this case-by-case approach, shortly before the NOPR issued, FERC approved a proposal by Emera Maine to return unprotected excess ADITs to customers over a period of 10 years. For utilities with stated transmission rates, however, FERC does not propose to require rate base adjustments prior to their next rate case.  But it does propose to require that such utilities determine their excess and deficient ADITs and propose in compliance filings a manner to return or recover these amounts from ratepayers. FERC-regulated transmission providers appear to have billions of dollars of ADITs recorded on their books.  Assuming FERC’s final rule generally follows its proposal, these utilities will likely need to return billions of dollars in excess ADITs.  But the precise manner in which this is done—and importantly the period of time over which excess ADITs will be returned—will likely be resolved only in company specific proceedings in the future. These proceedings are likely to be contentious at times, as customers will generally push for a faster return, but at the same time will need to balance that speed against future rate shock once the amortization is complete.  FERC recently approved Emera Maine’s request to return unprotected excess ADITs over 10 years, finding that doing so “balances passing through the benefits of the Tax Cuts and Jobs Act to ratepayers in a timely manner with avoiding rate shock.”  Whether other utilities will propose similar or different periods, and how FERC will respond, remains to be seen. The deadline for comments on the NOPR (issued in Docket No. RM19-5-000) is December 24, 2018.  FERC proposes that compliance filings be due within 90 days of the date of any Final Rule. *   *   *   * Gibson Dunn was counsel to Emera Maine in the matter noted above. Gibson Dunn’s Energy, Regulation and Litigation lawyers are available to assist in addressing any questions you may have regarding the developments discussed above.  To learn more about these issues, please contact the Gibson Dunn lawyer with whom you usually work, or the authors: William S. Scherman – Washington, D.C. (+1 202-887-3510, wscherman@gibsondunn.com) Jeffrey M. Jakubiak – New York (+1 212-351-2498, jjakubiak@gibsondunn.com) Jennifer C. Mansh – Washington, D.C. (+1 202-955-8590, jmansh@gibsondunn.com) © 2018 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

November 9, 2018 |
Iran Sanctions 2.0: The Trump Administration Completes Its Abandonment of the Iran Nuclear Agreement

Click for PDF Six months ago, President Donald Trump announced his decision to abandon the 2015 Iran nuclear deal—the Joint Comprehensive Plan of Action (the “JCPOA”)—and re-impose U.S. nuclear-related sanctions on the Iranian regime.[1]  The second and final wind-down period for those sanctions expired on November 5, 2018, triggering the “snap back” of remaining U.S. secondary sanctions on Iran’s oil, energy, and financial sectors, among other measures.  As of this week, the primary and secondary U.S. sanctions that were in place prior to the JCPOA have been restored, U.S.-owned or -controlled foreign entities are once again prohibited from engaging with Iran, and over 700 parties have been added to the U.S. Department of the Treasury’s Specially Designated Nationals and Blocked Persons (“SDN”) List, increasing the total number of SDNs by 10 percent—the largest single-day set of designations in the history of the Office of Foreign Assets Control (“OFAC”).[2] The Trump administration’s May 2018 decision to re-impose sanctions on Iran went further than many had anticipated, leading many to believe that the sanctions imposed this week would result in an aggressive expansion of U.S. economic pressure on Iran.  In fact, a number of waivers and exceptions should mitigate the impact of these new measures.  The United States has agreed to temporarily waive prohibitions on oil imports for eight countries: China, India, South Korea, Japan, Italy, Greece, Taiwan, and Turkey.[3]  The U.S. administration stopped short of pressuring the Society for Worldwide Interbank Financial Telecommunication (“SWIFT”) to disconnect each and every Iranian financial institution, which leaves some international payment channels open to Iran for the time being.[4]  Furthermore, OFAC has issued guidance expressly noting that non-U.S. persons will not be targeted by sanctions for engaging in transactions with or involving non-designated Iranian entities and non-sanctionable goods and services.[5] Nevertheless, the task of complying with these complex regulations will be a heavy burden for multinational companies in the coming months.  Complicating matters, the Trump administration’s decision to abandon the JCPOA sowed discord with European allies, and has given rise to competing compliance obligations for multinational companies.  As we described here, and discuss further below, in August 2018 the European Union implemented a blocking statute to prevent European firms from complying with U.S. sanctions on Iran. Background As we described here, the JCPOA, signed between Iran and the five permanent members of the United Nations Security Council (the United States, the United Kingdom, France, Russia, and China) and Germany (the “P5+1”) in 2015, committed both sides to certain obligations related to Iran’s nuclear development.[6]  Iran committed to various limitations on its nuclear program, and in return the international community (the P5+1 alongside the European Union and the United Nations) committed to relieving substantial portions of the sanctions that had been placed on Iran to address that country’s nuclear activities.  This relief included the United States’ agreement to ease certain secondary sanctions, thus opening up the Iranian economy for non-U.S. persons without risking their access to the U.S. market to pursue Iranian deals. On May 8, 2018, President Donald Trump announced his decision to withdraw from the JCPOA and re-impose U.S. nuclear-related sanctions.[7] Though this announcement was in accord with the President’s long-stated opposition to the JCPOA, his decision went further than many observers had anticipated.  In conjunction with the May announcement, the President issued a National Security Presidential Memorandum (“NSPM”) directing the Secretary of State and the Secretary of the Treasury to prepare immediately for the re-imposition of all U.S. sanctions lifted or waived in connection with the JCPOA, to be accomplished as expeditiously as possible and in no case later than 180 days from the date of the NSPM—November 4, 2018.  As described in an initial set of frequently asked questions (“FAQs”) set forth by OFAC, the re-imposition of sanctions was subject to certain 90- and 180-day wind-down periods that expired on August 6 and November 4, respectively.[8] As we discussed here, on August 6, 2018 the President issued a new executive order authorizing OFAC to re-impose sanctions that had been subject to the 90-day wind-down period.[9] That executive order consolidated Iran-related sanctions authorities and re-imposed the first tranche of secondary sanctions on transactions involving Iranian rials, Iranian sovereign debt, certain metals, and the Iranian automotive sector, among other measures.[10] The August executive order also set forth the tranche of sanctions authorizations that were subsequently imposed this week. New Sanctions With the expiration of the 180-day wind-down period on November 5, 2018, the United States has now re-imposed sanctions on the following:[11] Iranian port operators, shipping and shipbuilding; Petroleum-related transactions; Transactions by foreign financial institutions with the Central Bank of Iran and designated Iranian financial institutions; Provision of specialized financial messaging services to the Central Bank of Iran and certain Iranian financial institutions; Underwriting services, insurance and reinsurance; and Iran’s energy sector. Pursuant to the executive order issued on August 6, the following types of secondary sanctions may be imposed on non-U.S. persons: Blocking sanctions on non-U.S. persons who materially assist, sponsor, or provide support for or goods or services in support of: the National Iranian Oil Company (“NIOC”), Naftiran Intertrade Company (“NICO”), or the Central Bank of Iran;[12] Iranian SDNs;[13] or any other person included on the SDN List pursuant to Section 1(a) of the New Iran E.O. or Executive Order 13599 (i.e., the Government of Iran and certain Iranian financial entities);[14] Blocking sanctions on non-U.S. persons who: are part of the Iranian energy, shipping, or shipbuilding sectors;[15] operate Iranian ports;[16] or provide significant support to or goods or service in support of persons that are part of Iran’s energy, shipping, or shipbuilding sectors; Iranian port operators; or Iranian SDNs (excluding certain Iranian financial institutions);[17] “Menu-based” sanctions on non-U.S. persons who: knowingly engage in significant transactions in Iranian petroleum, petroleum products, or petrochemical products;[18] are successors, subsidiaries, parents, or affiliates of persons who have knowingly engaged in significant transactions in Iranian petroleum, petroleum products, or petrochemical products or in Iran’s automotive sector;[19] provide underwriting services, insurance, or reinsurance for sanctionable activities with or involving Iran;[20] or provide specialized financial messaging services to the Central Bank of Iran;[21] Correspondent and payable-through account sanctions on foreign financial institutions that conduct or facilitate significant transactions: on behalf of Iranian SDNs or other SDNs (as described above);[22] with NIOC or NICO;[23] or for transactions in Iranian petroleum, petroleum products, or petrochemical products.[24] Key Issues Oil Waivers The recently re-imposed U.S. restrictions on the export of Iran’s oil could have a significant impact on the Iranian economy.  Iranian oil exports have already dropped by one-third since hitting a peak of 2.8 million barrels per day in April 2018—shortly before the Trump administration announced it would re-impose nuclear-related sanctions.[25]  South Korea and Japan have stopped buying Iranian oil, and India has reduced its imports.[26]  Chinese imports are more difficult to determine given a robust black market oil trade.[27] Notably, the United States has agreed to temporarily waive these sanctions for eight jurisdictions that have agreed to significantly reduce or eliminate their imports of Iranian oil, including China, India, South Korea, Japan, Italy, Greece, Taiwan, and Turkey.[28]  The revenue owed to Iran for continued trade subject to these waivers will not be paid directly to Iran, but instead will be held in escrow accounts in the waiver jurisdictions for use by Iran, but only for humanitarian trade or bilateral trade with waiver jurisdictions in non-sanctioned goods.  This is the same model that existed during the Obama administration and that, given trade surpluses (and the value of oil), resulted in the buildup of billions of dollars of “trapped” Iranian money in bank accounts around the world.  This money represented the difference between the revenue paid to Iran by jurisdictions who had waivers and the remaining funds after Iran purchased various non-sanctioned goods from those jurisdictions. The waivers are only temporary—lasting for six months—and their extension is dependent on the Trump administration’s assessment that the benefiting jurisdictions have continued their efforts to significantly reduce their dependence on Iranian oil.  The United States has indicated that it expects two of the eight exempt jurisdictions to eliminate their Iranian oil imports within the first six-month period.  These waivers were granted despite initial indications from Trump administration officials that OFAC would only grant waivers if countries entirely eliminated their Iranian oil imports.  Interestingly, as with the waivers granted prior to the JCPOA, none of these documents or materials have yet been made public. SWIFT In connection with the re-imposition of sanctions, the United States has successfully cut off certain Iranian financial institutions from access to the SWIFT network,[29] the financial messaging system by which more than 11,000 banks worldwide facilitate transactions.[30] According to Secretary of the Treasury Steven Mnuchin, the United States has advised the Belgium-based cooperative that runs the messaging service that it must disconnect certain designated Iranian financial institutions “as soon as technologically feasible” or else become subject to U.S. sanctions.[31]  In that sense, the approach taken by the Trump administration represents a sort of compromise in that the United States has stopped short of pressuring SWIFT to disconnect each and every Iranian financial institution.[32]  Instead, the United States has (for now) left open at least some international payment channels. In response, without specifically mentioning the re-imposition of U.S. sanctions, SWIFT on November 5, 2018 announced that it would suspend certain unspecified Iranian financial institutions from the messaging service.[33]  (In a brief statement, SWIFT attributed its decision instead to its interest in maintaining “the stability and integrity of the wider global financial system,” an explanation likely calculated to avoid running afoul of Council Regulation (EC) No 2271/96 (as amended, the “EU Blocking Statute”).[34]) Viewed in broader context, there is certainly precedent for cutting off Iranian access to the messaging network.  SWIFT did precisely that in 2012 at the behest of the United States and the European Union, before restoring Iranian access in 2016 in connection with implementation of the JCPOA.[35]  However, given that the European Union strongly supports the JCPOA, it is possible that SWIFT—which is headquartered in Belgium and subject to European law—could have declined to disconnect the Iranian financial institutions designated by the United States.[36]  For now, however, the practical result of SWIFT’s action is that targeted Iranian banks will be almost entirely severed from the international financial system, severely complicating Iran’s ability to move funds in and out of the country. SDN Designations OFAC has also added 700 individuals, entities, aircraft, and vessels to the SDN List.  This is OFAC’s largest single addition to the SDN List and it increases the total number of SDNs by over 10 percent.  These 700 additions to the SDN List include the re-designation of persons previously granted sanctions relief under the JCPOA, the transfer of Iranian government or financial entities from the List of Persons Blocked Solely Pursuant to E.O. 13599 (the “E.O. 13599 List”), and the imposition of sanctions on 300 first-time designees.  U.S. persons, including their non-U.S. subsidiaries, are broadly prohibited from engaging in transactions with or involving these persons. Notably, the restrictions on non-U.S. persons engaging with SDNs vary based on the authority under which such SDNs were designated.  For example, U.S. secondary sanctions do not apply to dealings with Iranian banks that are designated solely because of their status as “Iranian financial institutions” pursuant to Executive Order 13599.[37]  That said, some entities moved to the SDN List from the E.O. 13599 List also have been designated under additional authorities and, therefore, have received new unique identification numbers (“UIDs”) when added to the SDN List.[38]  In October and November 2018, OFAC designated multiple Iranian financial institutions and other persons previously blocked solely pursuant to E.O. 13599 under E.O. 13224 (relating to counterterrorism), E.O. 13382 (relating to WMD proliferation), and E.O. 13553 (relating to serious human rights abuses by the Government of Iran).[39] Furthermore, the volume of SDNs in Iran means that non-U.S. persons must continue to assess the risks of a transaction on the basis of the sectoral sanctions that may apply, as well as the restrictions that pertain to SDNs based on the nature of their designation. Foreign Subsidiaries of U.S. Companies U.S. sanctions again prohibit non-U.S. entities owned or controlled by U.S. persons (e.g., foreign subsidiaries of U.S. companies) from generally engaging in business operations with or involving Iran.  Under the JCPOA, General License H had permitted U.S.-owned or -controlled non-U.S. entities to engage in Iran.  On June 27, 2018, the U.S. government revoked General License H, replacing it with a narrower authorization permitting the wind-down of such activities on or before the end of the 180-day wind-down period on November 4, 2018.[40]  These non-U.S. entities are now no longer permitted to provide goods, services, or financing to Iranian counterparties, even pursuant to agreements pre-dating the U.S. withdrawal from the JCPOA.  In this regard, these non-U.S. entities now are generally subject to the same limitations on engagement with Iran that restrict their U.S. parents.  We discuss the implications with respect to the EU Blocking Statute below. Iranian Ports While U.S. sanctions have now been re-imposed on certain Iranian port operators, the Trump administration has preserved a lenient regulatory interpretation adopted during the Obama era.  Transactions at Iranian ports that do not involve one particular port operator or other designated entities will not generally trigger secondary sanctions. As a general matter, non-U.S. persons can trigger secondary sanctions by engaging in significant transactions involving two types of entities: (i) designated entities identified as “port operators,” and (ii) other designated Iranian entities performing shipping and logistics services inside Iranian ports.  In an FAQ published this past August, OFAC clarified that to the extent that a shipping company transacts with port operators in Iran that have not been designated, except as “port operators” under the Iran Freedom and Counter-Proliferation Act of 2012, and “as long as such payments are limited strictly to routine fees including port dues, docking fees, or cargo handling fees, paid for the loading and unloading of non-sanctioned goods at Iranian ports,” such transactions are unlikely to be considered “significant.”[41]  As of now, there are no Iranian entities designated solely as “port operators” that would qualify for this exception. To date, only one identified Iranian “port operator,” Tidewater Middle East Co., has been added to the SDN List, in this case for its involvement in Iran’s proliferation of weapons of mass destruction.[42]  Critically, although Tidewater is the only port operator identified as such, the company has operations at many of Iran’s largest ports.  Tidewater has historically had operations at seven Iranian ports, including Bandar Abbas’ main container terminal, Shahid Rajaee, and played a key role in facilitating the Government of Iran’s weapons trade prior to the implementation of the JCPOA.  Importantly, when the JCPOA was implemented, OFAC announced that Tidewater was no longer the port operator of Bandar Abbas and that transactions with that port would not be prohibited if other designated entities were not involved.[43]  However, OFAC now cautions that companies should “exercise great caution to avoid engaging in transactions” with Tidewater in ports where Tidewater currently operates, as transactions with Tidewater may trigger secondary sanctions. Additionally, as a result of Monday’s designations, several Iranian shipping and logistics companies with operations at Bandar Abbas, Fujairah Port, the B.I.K. Port Complex, and Assaluyeh Port, among others, were designated to the SDN List.  As noted above, non-U.S. persons may face secondary sanctions for providing goods, services, or support to these entities.  However, non-U.S. persons are not broadly restricted from engaging with the ports where these entities operate.  The designations of both Tidewater and the Iranian shipping and logistics companies do not result in the blocking of all Iranian ports or port operators. Interestingly, the United States has purportedly carved out an exception from the imposition of sanctions with regard to Iran’s Chabahar port, the construction of an associated railway, the shipment of non-sanctionable goods through the port for Afghanistan’s use, and Afghanistan’s continued imports of Iranian petroleum products.  The exemption for Chabahar is most likely linked to the port’s importance for both India and Afghanistan, and likewise the importance of India and Afghanistan to U.S. foreign policy aims.[44]  India has invested heavily in developing the Chabahar port, which provides strategic access not just to Iran but Central Asia, bypassing Pakistan.  After U.S. sanctions were relaxed pursuant to the JCPOA, India announced its plans to spend $500 million on developing Chabahar and in December 2017 Iran inaugurated the latest phase of the port, including five new piers.  Plans to link the port to the Iranian rail system, which connects to Afghanistan and on to Central Asia, likely featured in the U.S. State Department’s decision.  Landlocked Afghanistan also has few better options for importing petroleum products than Iran for the time being.[45]  It is not clear whether the reported waiver extends to erstwhile prohibited engagements with SDNs—in our view that would be unlikely.  Indeed, the mention of the Chabahar port is likely tangential to the waiver for Afghanistan and India’s oil imports. Permissible Post-Wind Down Activities At the same time that the Trump administration is promising to conduct a “maximum pressure” economic campaign against the regime in Tehran,[46] OFAC has also clarified that U.S. persons and non-U.S. persons are expressly permitted to engage in certain narrow categories of transactions involving Iran.  Among the general licenses and authorizations that remain in effect even after U.S. nuclear-related sanctions have been fully re-imposed are the following: Collecting Payment for Goods, Services, Loans or Credits Provided to an Iranian Counterparty During the Wind-Down Period In the event a non-U.S., non-Iranian person is owed payment after the applicable wind-down period for goods, services, loans or credits lawfully provided to an Iranian counterparty during the wind-down period, the U.S. government will allow that person to receive payment according to the terms of the written contract or written agreement.[47]  The policy rationale behind this allowance appears to be that, in order to promote an orderly wind-down of existing activities involving Iran, OFAC felt that such persons needed to be given comfort that they would be made whole for any final goods, services, loans or credits they might deliver to an Iranian counterparty.[48]  Absent such an allowance, Iranian counterparties could conceivably have continued to receive goods, services, loans and credits during the 90- and 180-day wind-down periods and then use the re-imposition of U.S. sanctions as a pretext to refuse payment. In order to avail itself of this allowance, a non-U.S., non-Iranian person must satisfy three criteria.  First, the goods, services, loans or credits must have been provided to an Iranian counterparty pursuant to a written contract or written agreement entered into prior to May 8, 2018.[49]  Second, the goods or services must have been fully provided or delivered, or the loans or credits extended, to an Iranian counterparty prior to the end of the applicable wind-down period.[50]  Third, any payments would need to be consistent with U.S. sanctions, including that payments could not involve U.S. persons or the U.S. financial system, unless the transactions are exempt from regulation or authorized by OFAC.[51] OFAC has also indicated that, prior to the receipt of payment, non-U.S., non-Iranian persons can seek guidance from OFAC or the U.S. Department of State, as appropriate, regarding whether a particular payment would satisfy the criteria described above.[52]  Non-U.S., non-Iranian persons are encouraged to seek such guidance if the counterparty from whom they are seeking repayment has subsequently been added to the SDN List.[53] Authorized Activities General License J-1: Civil Aircraft on Temporary Sojourn to Iran General License J-1, which authorizes non-U.S. persons to fly U.S.-origin civil aircraft into Iran, remains in effect.[54]  This license represents a recognition that almost any aircraft that flies into Iran is “U.S.-origin” under U.S. law and that without such a license nearly all international flights to and from Iran would violate U.S. sanctions.[55]  With this license still in effect, non-U.S. air carriers may continue to fly U.S.-origin civil aircraft into and out of Iran, subject to the conditions in the license and the U.S. Export Administration Regulations. General License D-1: Services, Software and Hardware Incident to Personal Communications General License D-1, which authorizes U.S. persons to export or reexport to Iran certain hardware, software and services “incident to the exchange of personal communications over the Internet, such as instant messaging, chat and email, social networking, sharing of photos and movies, web browsing, and blogging,” also remains in effect.[56]  The fact that the Trump administration has elected to leave this license undisturbed is not altogether surprising and implies a continued U.S. policy interest in facilitating the ability of the Iranian people to communicate and organize among themselves, which requires access to certain telecommunications services and equipment. Humanitarian Exceptions Finally, humanitarian exceptions for transactions involving the export of agricultural commodities, food, medicine and medical devices to Iran, continue to apply.[57]  As they have previously, these exceptions extend to transactions by both U.S. persons and non-U.S. persons and are limited only in that such transactions cannot involve persons on the SDN List.[58]  These authorities have likely remained in effect for several reasons.  First, as a technical matter, they were not provided pursuant to the JCPOA and thus did not need to be removed in order for the United States to withdraw from the JCPOA.  Second, and more broadly, these humanitarian exceptions are consistent with long-standing U.S. policy that sanctions should target only the Iranian regime, and not the Iranian people.[59] Despite the flexibility afforded by the general licenses and authorizations described above—which will be very helpful to certain industries active in the implicated sectors (such as airlines and telecommunications)—it is important to remember that these exceptions operate at the margins.  In general, the Trump administration has stressed that it plans to adopt “the toughest sanctions regime ever imposed on Iran,” including aggressive enforcement efforts against persons that attempt to violate or circumvent U.S. sanctions.[60] The EU Response As we described here, on August 6, 2018 the European Union enacted Commission Delegated Regulation (EU) 2018/1100 (the “Re-imposed Iran Sanctions Blocking Regulation”), which supplements the EU Blocking Statute.  The combined effect of the EU Blocking Statute and the Re-imposed Iran Sanctions Blocking Regulation is to prohibit compliance by EU entities with U.S. sanctions on Iran which have been re-imposed following the U.S. withdrawal from the JCPOA.  To date, the dominance of the U.S. dollar, together with robust U.S. sanctions enforcement, forces many global firms to comply with the re-imposed U.S. sanctions described above, even in light of legal risks arising from the EU Blocking Statute and other national anti-boycott legislation. European Union leaders have discussed creating a clearinghouse to manage trade with Iran denominated in Euros,[61] but no EU member state is as of yet willing to play host.[62]  Major European companies have already abandoned their Iranian deals,[63] yet others are moving away from the use of U.S. dollar and/or business with the United States altogether in an attempt to be able to continue business with Iran.  Additionally, while not all Iranian banks have been disconnected, the significant new restrictions on Iranian access to the SWIFT network discussed above will further discourage European engagements with Iran.[64] These competing obligations are a concern for U.S. companies seeking to acquire EU firms that have a history of engagement with Iran.  Once acquired and as discussed above, the EU “target” would be considered a U.S. person from an U.S. sanctions perspective and thus obliged to comply with U.S. sanctions—in potential violation of the EU Blocking Statute, due to being considered an EU person by EU jurisdictions.  We have described the generally available possible options for affected companies here.  In the discussion below we shall focus on the option to acquire respective licenses to remain compliant with both the re-imposed U.S. sanctions and the EU Blocking Statute. One way forward in such situations is to reach out to the U.S. authorities to request a specific license for a particular transaction with Iran.  Apart from the time such process might take and the potentially limited chance of success, according to the EU Commission, requesting from the U.S. authorities an individual license granting a derogation/exemption from the listed extra-territorial legislation, which include the re-imposed U.S. sanctions, would amount to complying with the latter.  The EU Commission notes that this would necessarily imply recognizing the U.S. jurisdiction over EU operators[65] which should be subject to the jurisdiction of the EU/Member States.  Applying for a special license is thus considered a breach of the EU Blocking Statute.  EU operators may, nevertheless, under a new streamlined process, request the EU Commission directly, not the EU member state authorities, to authorize them to apply for a special license with the U.S. authorities, pursuant to Article 5, second paragraph of the EU Blocking Statute. Another way forward is to apply directly for an exception from the EU Blocking Statute to be able to comply with the re-imposed U.S. sanctions in a fashion that is legally permissible.  This will not only limit the risk of prosecution and litigation, but also ease reasonable worries of management and employees of the acquired EU subsidiary.  According to article 5 (2) of the EU Blocking Statute the applicant will have to provide in their application sufficient evidence that non-compliance would cause serious damage to at least one protected interest. “Protected interests” are defined as the interest of any EU operator, the interest of the EU or both. The EU has legislated that when assessing whether serious damage to the protected interests as referred to in the second paragraph of Article 5 of Regulation (EC) No 2271/96 would arise, the Commission will consider, among other things, “the existence of a substantial connecting link with the third country which is at the origin of the listed extraterritorial legislation (including the re-imposed U.S. sanctions) or the subsequent actions; for example the applicant has parent companies or subsidiaries, or participation of natural or legal persons subject to the primary jurisdiction of the third country which is at the origin of the listed extra-territorial legislation or the subsequent actions.”[66] As first cases appear, any company caught between the re-imposed U.S. sanctions and the EU Blocking Statute should also be aware of a heightened risk of litigation and position themselves accordingly.  Third parties might successfully sue under using the EU Blocking Regulation, for example if the above mentioned EU company with a U.S. parent were to decide to not deliver a product to Iran based on compliance with the re-imposed U.S. sanctions, despite a prior contractual obligation, a European court will likely not accept termination merely on the grounds of such U.S. sanctions compliance. Finally, EU operators are required to inform the EU Commission within 30 days from the date on which information is obtained that the economic and/or financial interests of any EU operator is affected, directly or indirectly, by the laws specified in the Annex of the EU Blocking Statute (including the re-imposed U.S. sanctions) or by actions based thereon or resulting therefrom.  If the EU operator is a legal person, this obligation applies to the directors, managers and other persons with management responsibilities of such legal person. Conclusion In our assessment, November 5, 2018 marks a new phase in U.S. sanctions implementation against Iran.  National Security Adviser John Bolton warned on November 5 that the administration will impose “sanctions that even go beyond” those imposed this week or which existed under the Obama administration.[67]  “More are coming,” he noted, adding that the United States would “have very strict, very tight enforcement of the sanctions that exist.”[68] In particular, we assess that this new phase will be marked by robust U.S. government activities across three distinct work streams.  First, we assess that the U.S. government will continue and likely expand diplomatic outreach efforts to negotiate, cajole, and perhaps threaten states and corporations that do not comply with U.S. measures.  The eight oil waiver jurisdictions are likely to receive significant attention, as will jurisdictions of concern with respect to sanctions evasion and subversion—among others, we expect U.S. outreach to Qatar, Oman, Turkey, the Caucasus, Iraq, Central Asia, and perhaps Sri Lanka and South Africa.  All were the focus of sustained attention during the last round of robust secondary sanctions under President Obama.  Second, we assess that OFAC and other agencies will be active in enforcement of violations.  We note that OFAC has only published three enforcement actions this year—which is comparatively very light for an agency that historically has published 20 or more.  We assume that there are other enforcement actions that have yet to be published—even if those actions concern activities that far pre-dated November 5, there could be a significant deterrent benefit in announcing substantial enforcement actions shortly after the resumption of the Iran sanctions.  The unilateral approach to Iran sanctions under President Trump may compel a more public and robust enforcement action to achieve the same level of deterrence as the multilateral approach achieved under President Obama.  Finally, the third work stream involves the continuing efforts of OFAC’s Office of Global Targeting (which constructs the evidentiary material needed to list entities).  We are confident that OFAC will be very active in both identifying more Iranian actors for listing and potentially changing the designations of some already listed entities so as to impose secondary sanctions as needed. Even so, uncertainty abounds.  It is unknown whether an aggressive approach to U.S. enforcement will lead European signatories to the JCPOA to enforce the EU Blocking Statute.  Or will the U.S. steamroll such efforts by virtue of its economic power?  Will Iranian president Hassan Rouhani consider renegotiating the nuclear deal to meet U.S. demands, or will he be replaced by a hardliner when he leaves office in 2021?  Whatever happens next, we anticipate a continuing fluidity in the sanctions environment and consequently an increasingly complex set of compliance challenges for global companies.    [1]   Press Release, White House, Remarks by President Trump on the Joint Comprehensive Plan of Action (May 8, 2018), available at https://www.whitehouse.gov/briefings-statements/remarks-president-trump-joint-comprehensive-plan-action; see also Presidential Memorandum, Ceasing U.S. Participation in the JCPOA and Taking Additional Action to Counter Iran’s Malign Influence and Deny Iran All Paths to a Nuclear Weapon (May 8, 2018), available at https://www.whitehouse.gov/presidential-actions/ceasing-u-s-participation-jcpoa-taking-additional-action-counter-irans-malign-influence-deny-iran-paths-nuclear-weapon.    [2]   See Press Release, U.S. Dep’t of Treasury, U.S. Government Fully Re-Imposes Sanctions on the Iranian Regime as Part of Unprecedented U.S. Economic Pressure Campaign (Nov. 5, 2018), available at https://home.treasury.gov/news/press-releases/sm541.    [3]   Press Release, U.S. Dep’t of State, Press Availability With Secretary of Treasury Steven T. Mnuchin (Nov. 5, 2018), available at https://www.state.gov/secretary/remarks/2018/11/287132.htm.    [4]   Eli Lake, Opinion, Trump Bank Sanctions Will Hit Iran Where It Hurts, Bloomberg (Nov. 2, 2018), available at https://www.bloomberg.com/opinion/articles/2018-11-02/trump-s-iran-bank-cutoff-from-swift-will-make-u-s-sanctions-hurt.    [5]   U.S. Dep’t of Treasury, Frequently Asked Questions Related to the “Snap-Back” of Iranian Sanctions in November, 2018, FAQ No. 637 (Nov. 5, 2018), available at https://www.treasury.gov/resource-center/faqs/Sanctions/Pages/faq_iran.aspx#630.    [6]   U.S. Dep’t of State, Joint Comprehensive Plan of Action (July 14, 2015), available at https://www.state.gov/documents/organization/245317.pdf.    [7]   Press Release, White House, Remarks by President Trump on the Joint Comprehensive Plan of Action (May 8, 2018), available at https://www.whitehouse.gov/briefings-statements/remarks-president-trump-joint-comprehensive-plan-action; see also Presidential Memorandum, Ceasing U.S. Participation in the JCPOA and Taking Additional Action to Counter Iran’s Malign Influence and Deny Iran All Paths to a Nuclear Weapon (May 8, 2018), available at https://www.whitehouse.gov/presidential-actions/ceasing-u-s-participation-jcpoa-taking-additional-action-counter-irans-malign-influence-deny-iran-paths-nuclear-weapon; Press Release, U.S. Dep’t of Treasury, Guidance Relating to the Lifting of Certain U.S. Sanctions Pursuant to the Joint Comprehensive Plan of Action on Implementation Day (Jan. 16, 2016), available at https://www.treasury.gov/resource-center/sanctions/Programs/Documents/implement_guide_jcpoa.pdf.    [8]   Press Release, U.S. Dep’t of Treasury, Statement by Secretary Steven T. Mnuchin on Iran Decision (May 8, 2018), available at https://home.treasury.gov/news/press-releases/sm0382.    [9]   Exec. Order No. 13,846, 83 Fed. Reg. 38,939 (Aug. 6, 2018), available at https://www.treasury.gov/resource-center/sanctions/Programs/Documents/08062018_iran_eo.pdf. [10]   In connection with the end of the 90-day wind-down period, the U.S. government also revoked authorizations to import into the United States Iranian carpets and foodstuffs and to sell to Iran commercial passenger aircraft and related parts and services.  U.S. Dep’t of Treasury, Revocation of JCPOA-Related General Licenses; Amendment of the Iranian Transactions and Sanctions Regulations; Publication of Updated FAQs (June 27, 2018), available at https://www.treasury.gov/resource-center/sanctions/OFAC-Enforcement/Pages/20180627.aspx. [11]   U.S. Dep’t of Treasury, Frequently Asked Questions Regarding the Re-Imposition of Sanctions Pursuant to the May 8, 2018 National Security Presidential Memorandum Relating to the Joint Comprehensive Plan of Action (JCPOA) (May 8, 2018), available at https://www.treasury.gov/resource-center/sanctions/Programs/Documents/jcpoa_winddown_faqs.pdf, FAQ No. 1.3. [12]   Exec. Order No. 13,846 § 1(a)(ii) (Aug. 6, 2018), available at https://www.treasury.gov/resource-center/sanctions/Programs/Documents/08062018_iran_eo.pdf. [13]   Id. § 1(a)(iii). [14]   Id. [15]   Id. § 1(a)(iv). [16]   Id. [17]   Id. [18]   Id. § 3(a)(ii)-(iii). [19]   Id. § 3(a)(iv)-(vi). [20]   Id. § 5. [21]   Id.  This provision refers to the electronic messaging provided principally by the SWIFT inter-bank messaging system. [22]   Id. § 2(a)(ii). [23]   Id. § 2(a)(iii). [24]   Id. § 2(a)(iv)-(v). [25]   Turning the Screws, The Economist (Nov. 3, 2018). [26]   Id. [27]   Id. [28]   Press Release, U.S. Dep’t of State, Press Availability With Secretary of Treasury Steven T. Mnuchin (Nov. 5, 2018), available at https://www.state.gov/secretary/remarks/2018/11/287132.htm. [29]   Michael R. Pompeo & Steven T. Mnuchin, Briefing on Iran Sanctions, U.S. Dep’t of State (Nov. 2, 2018), available at https://www.state.gov/secretary/remarks/2018/11/287090.htm. [30]   SWIFT, Introduction to SWIFT, https://www.swift.com/about-us/discover-swift (last visited Nov. 4, 2018); see also Peter Eavis, Trump’s New Iran Sanctions May Hit Snag with Global Financial Service, N.Y. Times: DealBook (Oct. 12, 2018), available at https://www.nytimes.com/2018/10/12/business/dealbook/swift-sanctions-iran.html (“The messaging service is run by a Belgian cooperative called Swift.  The service, which is owned and used by banks around the world, plays a central role in the flow of money across the globe.  If, say, a Bank of America customer wants to send money to a client of Barclays, Bank of America will send a message over Swift’s network to Barclays, notifying it of its intention to move the money.  Swift does not hold any of the money itself.”). [31]   See Michael R. Pompeo & Steven T. Mnuchin, Briefing on Iran Sanctions, U.S. Dep’t of State (Nov. 2, 2018), available at https://www.state.gov/secretary/remarks/2018/11/287090.htm.  Secretary Mnuchin has also indicated that a narrow class of humanitarian transactions (e.g., providing food or medicine to non-designated entities) will still be allowed to use the SWIFT network. [32]   Eli Lake, Opinion, Trump Bank Sanctions Will Hit Iran Where It Hurts, Bloomberg (Nov. 2, 2018), available at https://www.bloomberg.com/opinion/articles/2018-11-02/trump-s-iran-bank-cutoff-from-swift-will-make-u-s-sanctions-hurt. [33]   Arshad Mohammed, SWIFT Says Suspending Some Iranian Banks’ Access to Messaging System, Reuters (Nov. 5, 2018), available at https://www.reuters.com/article/us-usa-iran-sanctions-swift/swift-says-suspending-some-iranian-banks-access-to-messaging-system-idUSKCN1NA1PN. [34]   Id. [35]   E.g., Peter Eavis, Trump’s New Iran Sanctions May Hit Snag with Global Financial Service, N.Y. Times: DealBook (Oct. 12, 2018), https://www.nytimes.com/2018/10/12/business/dealbook/swift-sanctions-iran.html. [36]   See id. [37]   See Exec. Order No. 13,846 § 1(a)(iii) (Aug. 6, 2018), available at https://www.treasury.gov/resource-center/sanctions/Programs/Documents/08062018_iran_eo.pdf.  In accordance with this authority and OFAC FAQ No. 3.1, the SDN List entries for these Iranian financial institutions do not have the notation warning that they are “Subject to Secondary Sanctions.” [38]   OFAC FAQ No. 638 (Nov. 5, 2018). [39]   OFAC FAQ No. 639 (Nov. 5, 2018). [40]   U.S. Dep’t of Treasury, Revocation of JCPOA-Related General Licenses; Amendment of the Iranian Transactions and Sanctions Regulations; Publication of Updated FAQs (June 27, 218), available at https://www.treasury.gov/resource-center/sanctions/OFAC-Enforcement/Pages/20180627.aspx. [41]   See OFAC FAQ No. 315. [42]   Id. [43]   See U.S. Dep’t of Treasury, Frequently Asked Questions Relating to the Lifting of Certain U.S. Sanctions Under the Joint Comprehensive Plan of Action (JCPOA) on Implementation Day (updated Dec. 15, 2016), FAQ No. 3.2, available at https://www.treasury.gov/resource-center/sanctions/Programs/Documents/jcpoa_faqs.pdf. [44]   See Catherine Putz, Iran’s Chabahar Port Scores an India- and Afghanistan-Inspired Sanctions Exemption, The Diplomat (Nov. 8, 2018), available at https://thediplomat.com/2018/11/irans-chabahar-port-scores-an-india-and-afghanistan-inspired-sanctions-exemption. [45]   Id. [46]   See, e.g., Michael R. Pompeo & Steven T. Mnuchin, Briefing on Iran Sanctions, U.S. Dep’t of State (Nov. 2, 2018), available at https://www.state.gov/secretary/remarks/2018/11/287090.htm. [47]   OFAC FAQ No. 631 (Nov. 5, 2018). [48]   See id. [49]   Id.  The logic behind this requirement appears to be a desire on the part of OFAC to avoid an unseemly rush to generate new business inside Iran on the eve of sanctions being re-imposed.  Contracts entered into after President Trump’s May 8, 2018 announcement do not enjoy any such assurance of the ability to collect payment after the wind-down periods end. [50]   OFAC FAQ Nos. 630 and 631 (Nov. 5, 2018).  According to OFAC, “[a]s a general matter, goods or services will be considered fully provided or delivered when the party providing or delivering the goods or services has performed all the actions and satisfied all the obligations necessary to be eligible for payment or other agreed-to compensation.  With respect to goods exported to or from Iran, at a minimum, title to the goods must have transferred to the relevant party.”  OFAC FAQ No. 633 (Nov. 5, 2018).  To the extent a non-U.S., non-Iranian person continues to perform under such a contract after the applicable wind-down period has ended, they would not only have no assurance of being repaid, but would also risk incurring secondary sanctions liability. [51]   OFAC FAQ No. 631 (Nov. 5, 2018). [52]   OFAC FAQ No. 632 (Nov. 5, 2018). [53]   OFAC FAQ No. 636 (Nov. 5, 2018). [54]   OFAC, General License J-1: Authorizing the Reexportation of Certain Civil Aircraft to Iran on Temporary Sojourn and Related Transactions (Dec. 15, 2016), available at https://www.treasury.gov/resource-center/sanctions/Programs/Documents/iran_glj_1.pdf. [55]   Foreign-made items incorporating more than 10 percent U.S.-origin content by value, including civilian aircraft, may not be reexported by non-U.S. persons to Iran without authorization (31 C.F.R. § 560.205).  Most civilian aircraft—even those produced by non-U.S. manufacturers outside the United States—exceed this threshold. [56]   OFAC, General License D-1: General License with Respect to Certain Services, Software, and Hardware Incident to Personal Communications (Feb. 7, 2014), available at https://www.treasury.gov/resource-center/sanctions/Programs/Documents/iran_gld1.pdf. [57]   Exec. Order No. 13,846, 83 Fed. Reg. 38,939, 38,941 (Aug. 6, 2018), available at https://www.treasury.gov/resource-center/sanctions/Programs/Documents/08062018_iran_eo.pdf; see also Fact Sheet, President Donald J. Trump Is Reimposing All Sanctions Lifted Under the Unacceptable Iran Deal, White House (Nov. 2, 2018), available at https://www.whitehouse.gov/briefings-statements/president-donald-j-trump-reimposing-sanctions-lifted-unacceptable-iran-deal (“Sales of food, agricultural commodities, medicine and medical devices to Iran have long been—and remain—exempt from our sanctions.”). [58]   OFAC FAQ Nos. 630 and 637 (Nov. 5, 2018). [59]   E.g., Michael R. Pompeo & Steven T. Mnuchin, Briefing on Iran Sanctions, U.S. Dep’t of State (Nov. 2, 2018), available at https://www.state.gov/secretary/remarks/2018/11/287090.htm (“[O]ur actions today are targeted at the regime, not the people of Iran, who have suffered grievously under this regime.  It’s why we have and will maintain many humanitarian exemptions to our sanctions including food, agricultural commodities, medicine, and medical devices.”). [60]   See, e.g., Fact Sheet, President Donald J. Trump Is Reimposing All Sanctions Lifted Under the Unacceptable Iran Deal, White House (Nov. 2, 2018), available at https://www.whitehouse.gov/briefings-statements/president-donald-j-trump-reimposing-sanctions-lifted-unacceptable-iran-deal. [61]   Europe Accelerates Work on So-Called SPV to Counter U.S.’s Iran Sanctions, Bloomberg (Nov. 8, 2018), available at https://www.bloomberg.com/news/articles/2018-11-07/europe-accelerates-work-on-spv-to-counter-u-s-s-iran-sanctions. [62]   Turning the Screws, The Economist (Nov. 3, 2018). [63]   How Companies Around the World are Reversing Course on Iran Business, Iran Watch (Nov. 5, 2018), available at https://www.iranwatch.org/our-publications/policy-briefs/how-companies-around-world-are-reversing-course-iran-business. [64]   Michael R. Pompeo & Steven T. Mnuchin, Briefing on Iran Sanctions, U.S. Dep’t of State (Nov. 2, 2018), available at https://www.state.gov/secretary/remarks/2018/11/287090.htm; see also SWIFT, Introduction to SWIFT, available at https://www.swift.com/about-us/discover-swift (last visited Nov. 4, 2018); Peter Eavis, Trump’s New Iran Sanctions May Hit Snag with Global Financial Service, N.Y. Times: DealBook (Oct. 12, 2018), available at https://www.nytimes.com/2018/10/12/business/dealbook/swift-sanctions-iran.html (“The messaging service is run by a Belgian cooperative called Swift.  The service, which is owned and used by banks around the world, plays a central role in the flow of money across the globe.  If, say, a Bank of America customer wants to send money to a client of Barclays, Bank of America will send a message over Swift’s network to Barclays, notifying it of its intention to move the money.  Swift does not hold any of the money itself.”). [65]   The respective EU Guidance refers to EU operators when referring to the natural and legal persons for whom the EU Blocking Statute applies according to Article 11 of the EU Blocking Statute.  Those are (i) any natural person being a resident in the Community (EU) (whereas “being a resident in the Community” means: being legally established in the Community for a period of at least six months within the 12-month period immediately prior to the date on which, under this Regulation, an obligation arises or a right is exercised) and a national of a EU Member State, (ii) any legal person incorporated within the Community, (iii) any natural or legal person referred to in Article 1 (2) of Regulation (EEC) No 4055/86 (i.e. nationals of the Member States established outside the Community and to shipping companies established outside the Community and controlled by nationals of a Member State, if their vessels are registered in that Member State in accordance with its legislation), (iv) any other natural person being a resident in the Community, unless that person is in the country of which he is a national, and (v) any other natural person within the Community, including its territorial waters and air space and in any aircraft or on any vessel under the jurisdiction or control of a Member State, acting in a professional capacity. [66]   Article 4(c) of Commission Implementing Regulation (EU) 2018/1101 of 3 August 2018 laying down the criteria for the application of the second paragraph of Article 5 of Council Regulation (EC) No 2271/96 protecting against the effects of the extra-territorial application of legislation adopted by a third country, and actions based thereon or resulting therefrom. [67]   Emily Birnbaum, Bolton: Even More Iran Sanctions Planned, The Hill (Nov. 5, 2018), available at https://thehill.com/policy/finance/414891-bolton-even-more-iran-sanctions-planned. [68]   Id. The following Gibson Dunn lawyers assisted in preparing this client update: Judith Alison Lee, Adam M. Smith, Stephanie Connor, R.L. Pratt, Richard Roeder and Scott Toussaint. Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding the above developments.  Please contact the Gibson Dunn lawyer with whom you usually work, the authors, or any of the following leaders and members of the firm’s International Trade practice group: United States: Judith Alison Lee – Co-Chair, International Trade Practice, Washington, D.C. (+1 202-887-3591, jalee@gibsondunn.com) Ronald Kirk – Co-Chair, International Trade Practice, Dallas (+1 214-698-3295, rkirk@gibsondunn.com) Jose W. Fernandez – New York (+1 212-351-2376, jfernandez@gibsondunn.com) Marcellus A. McRae – Los Angeles (+1 213-229-7675, mmcrae@gibsondunn.com) Adam M. Smith – Washington, D.C. (+1 202-887-3547, asmith@gibsondunn.com) Christopher T. Timura – Washington, D.C. (+1 202-887-3690, ctimura@gibsondunn.com) Ben K. Belair – Washington, D.C. (+1 202-887-3743, bbelair@gibsondunn.com) Courtney M. Brown – Washington, D.C. (+1 202-955-8685, cmbrown@gibsondunn.com) Laura R. 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November 1, 2018 |
U.S. News – Best Lawyers® Awards Gibson Dunn 132 Top-Tier Rankings

U.S. News – Best Lawyers® awarded Gibson Dunn Tier 1 rankings in 132 practice area categories in its 2019 “Best Law Firms” [PDF] survey. Overall, the firm earned 169 rankings in nine metropolitan areas and nationally. Additionally, Gibson Dunn was recognized as “Law Firm of the Year” for Litigation – Antitrust and Litigation – Securities. Firms are recognized for “professional excellence with persistently impressive ratings from clients and peers.” The recognition was announced on November 1, 2018.

November 1, 2018 |
Glass Lewis Issues 2019 Proxy Voting Policy Updates

Click for PDF On October 24, 2018, Glass Lewis released its updated U.S. proxy voting policy guidelines for 2019, including guidelines for shareholder proposals.  The updated U.S. guidelines are available here, and the guidelines on shareholder proposals are available here.  The most significant updates to the guidelines are summarized below. The updated U.S. proxy voting guidelines include discussion of two previously announced policy changes that will take effect for meetings held after January 1, 2019, relating to board gender diversity and virtual-only annual meetings. Board Gender Diversity As previously announced, for a company that has no female directors, Glass Lewis generally will begin recommending votes “against” the nominating/governance committee chair, and may also recommend votes “against” other committee members depending on factors such as the company’s size, industry, state of headquarters, and governance profile. Glass Lewis will “carefully review a company’s disclosure of its diversity considerations” and may not recommend votes “against” directors when the board has provided a “sufficient rationale” for the absence of any female board members.  Such rationale may include any notable restrictions on the board’s composition (e.g., the existence of director nomination agreements with significant investors) or disclosure of a timetable for addressing the board’s lack of diversity. In light of California’s recently enacted legislation requiring a minimum number of women on public company boards (discussed here), which includes having at least one woman by the end of 2019, Glass Lewis will recommend votes “against” the nominating/governance committee chair at companies headquartered in California that do not have at least one woman on the board and do not disclose a “clear plan” for addressing this issue before the end of 2019. Conflicting Shareholder Proposals Glass Lewis updated its policy on conflicting shareholder proposals to address special meeting proposals specifically.  These updates respond to developments during the 2018 proxy season, when the Securities and Exchange Commission (the “SEC”) staff permitted companies to exclude “conflicting” special meeting shareholder proposals when seeking shareholder ratification of an existing special meeting right with a higher ownership threshold. The updated policy states that Glass Lewis generally favors a 10%-15% special meeting right and will generally recommend votes “for” shareholder and company proposals within this range.  When companies exclude a special meeting shareholder proposal by seeking ratification of an existing special meeting right, Glass Lewis will recommend votes “against” both the company’s ratification proposal and the members of the nominating/governance committee. When the proxy statement includes both shareholder and company proposals on special meetings: Where the proposals have different thresholds for requesting a special meeting, Glass Lewis will generally recommend voting “for” the lower threshold (typically the shareholder proposal); and Where the company does not currently have a special meeting right, Glass Lewis may recommend that shareholders vote “for” the shareholder proposal and abstain from the company proposal seeking to establish a special meeting right.  Glass Lewis views the practice of abstaining as a means for shareholders to signal their preference for an appropriate special meeting threshold while not directly opposing establishment of a special meeting right. While it appears that the special meeting threshold will be the primary focus of Glass Lewis’s analysis, Glass Lewis also will consider the company’s overall governance profile, including its responsiveness to and engagement with shareholders. Director Voting Recommendations Based on Excluded Shareholder Proposals With respect to the exclusion of shareholder proposals more generally, Glass Lewis states in the updated policy that “it generally believe[s] that companies should not limit investors’ ability to vote on shareholder proposals that advance certain rights or promote beneficial disclosure.”  In light of this, Glass Lewis will make note of instances where a company has successfully petitioned the SEC to exclude shareholder proposals and, “in certain very limited circumstances,” may recommend votes “against” the members of the nominating/governance committee if it believes exclusion of a shareholder proposal was “detrimental to shareholders.” Environmental and Social Risk Oversight Glass Lewis believes that companies should have “appropriate board-level oversight of material risks” to their operations, including those that are environmental and social in nature.  For large cap companies or companies where Glass Lewis identifies “material oversight issues,” Glass Lewis will seek to identify the directors or committees charged with oversight of environmental and social issues, and will note instances where companies have not clearly defined this oversight in their governance documents. Where Glass Lewis believes that a company has not properly managed or mitigated environmental or social risks “to the detriment of shareholder value,” Glass Lewis may recommend votes “against” directors who are responsible for oversight of environmental and social risks.  If there is no explicit board oversight of environmental and social issues, Glass Lewis may recommend votes “against” members of the audit committee.  Ratification of Auditor: Additional Considerations Glass Lewis’s policies list situations in which it may recommend votes “against” ratification of the outside auditor.  Under the 2019 policy updates, Glass Lewis will consider factors that may call into question an auditor’s effectiveness, including auditor tenure, any pattern of inaccurate audits, and any ongoing litigation or controversies.  In “limited cases,” these factors may lead to a recommendation “against” auditor ratification. Virtual-Only Shareholder Meetings As previously announced, Glass Lewis’s new policy on virtual-only shareholder meetings will take effect January 1, 2019.  Under this policy, for a company that chooses to hold a virtual-only meeting, Glass Lewis will analyze the company’s disclosure of its virtual meeting procedures and may recommend votes “against” the members of the nominating/governance committee if the company does not provide “effective” disclosure assuring that shareholders will have the same opportunities to participate at the virtual meeting as they would at in-person meetings. Examples of effective disclosure include descriptions of how shareholders can ask questions during the meeting, the company’s guidelines on how questions and comments will be recognized and disclosed to meeting participants, procedures for posting questions and answers on the company’s website as soon as practical after the meeting, and how the company will deal with any potential technical issues regarding accessing the virtual meeting including providing technical support. Director Recommendations Based on Company Performance Glass Lewis typically recommends that shareholders vote against directors who have served on boards or as executives at companies with “indicators of mismanagement or actions against the interests of shareholders.”  One instance where Glass Lewis may issue an “against” recommendation is where a company’s performance for the past three years has been in the bottom quartile of the sector and the board has not taken reasonable steps to address the poor performance.  For 2019, Glass Lewis has clarified that rather than looking solely at stock price performance, it will also consider the company’s overall corporate governance, pay-for-performance alignment, and board responsiveness to shareholders, in order to assess whether “the company performed significantly worse than its peers.” Directors Who Provide Consulting Services Under its voting policies on conflicts of interest, Glass Lewis recommends that shareholders vote “against” directors who provide, or whose immediate family members provide, material professional services to the company, including legal, consulting or financial services.  Beginning in 2019, Glass Lewis will generally refrain from voting against directors who provide consulting services if they do not serve on the audit, compensation or nominating/governance committees and Glass Lewis has not identified “significant governance concerns” at the company. Executive Compensation Glass Lewis clarified or amended several executive compensation policies: Say-on-pay voting recommendations.  Glass Lewis has provided additional guidance on how it evaluates executive compensation programs in making recommendations on say-on-pay proposals.  In particular, Glass Lewis evaluates both the structure of a company’s program and the company’s disclosures, in each case using a rating scale of “Good,” “Fair” and “Poor.”  According to Glass Lewis, most companies receive a “Fair” rating for both structure and disclosure, and the other two ratings primarily highlight companies that are outliers. Peer group and other practices.  Glass Lewis’s say-on-pay policy identifies practices that may lead to an “against” recommendation for say-on-pay proposals.  The 2019 updates clarify that these practices may also influence Glass Lewis’s evaluation of the structure of a company’s compensation program.  The updates also provide more detail on the peer group practices that Glass Lewis views as problematic.  These practices now will include the use of outsized peer groups and compensation targets set well above peers. Pay-for-performance assessment.  Glass Lewis uses a grading system of “A” through “F” to benchmark executive pay and company performance against a peer group.  The updated voting policies clarify that the grades represent the relationship between a company’s percentile rank for pay and its percentile rank for performance.  In other words, a grade of “A” reflects that a company’s percentile rank for pay is significantly less than its percentile rank for performance, while a grade of “F” reflects that the pay ranking is significantly higher than the performance ranking.  Separately, the analysis in Glass Lewis’s proxy papers reflects a comparison between a company and its peer group, with respect to both pay levels and performance. Added excise tax gross-ups.  Glass Lewis may recommend votes “against” all members of the compensation committee if executive employment agreements contain new excise tax gross-up provisions, particularly if the company had previously committed not to provide gross-ups.  New gross-up provisions related to excise taxes on excess parachute payments also may lead to votes “against” a company’s say-on-pay proposal. Sign-on and severance arrangements.  Glass Lewis has clarified the terms of sign-on and severance arrangements that may contribute to negative voting recommendations on say-on-pay proposals.  Glass Lewis will consider the size and design of any contractual payments, as well as U.S. market practice.  Excessive sign-on awards may support or drive a negative voting recommendation, and multi-year guaranteed bonuses may drive “against” recommendations on their own.  In addition to the size of contractual payments, Glass Lewis will consider their terms.  Key man clauses, board continuity conditions, or excessively broad change in control triggers may help drive a negative voting recommendation.  In general, Glass Lewis will be wary of terms that are “excessively restrictive” in favor of an executive or could incentive behaviors that are not in a company’s best interests.  Glass Lewis believes companies should abide by pre-determined severance amounts in most circumstances, and will consider severance amounts actually paid and in “special cases,” their appropriateness given the circumstances of the executive’s departure. Grants of front-loaded awards.  Glass Lewis has added a new discussion of “front-loading,” or providing large grants intended to serve as compensation for multiple years.  In making recommendations on say-on-pay proposals, Glass Lewis will apply particular scrutiny to front-loaded awards.  It will consider a company’s rationale for front-loaded awards and expects companies to include a firm commitment not to grant additional awards for a defined period.  If a company breaks this commitment, Glass Lewis may recommend “against” the company’s say-on-pay proposal unless the company provides a “convincing” rationale. Clawbacks.  Glass Lewis will begin looking beyond the minimum legal requirements for clawbacks and considering the specific terms of companies’ clawback policies.  According to the updated voting policies, Glass Lewis believes that clawbacks “should be triggered, at a minimum, in the event of a restatement of financial results or similar revision of performance indicators upon which bonuses were based.”  Clawback policies that simply track minimum legal requirements “may inform” Glass Lewis’s overall view of a company’s compensation program. Discretionary short-term incentives.  Glass Lewis will not recommend votes “against” a say-on-pay proposal solely based on a company’s use of discretionary short-term bonuses if there is meaningful disclosure of the rationale behind the use of a discretionary mechanism and the bonus amount determinations.  However, other “significant” issues, such as a disconnect between pay and performance, may help drive a negative voting recommendation. Equity plans that cover directors.  Glass Lewis continues to believe that equity grants to directors should not be performance-based.  Where an equity plan covers non-management directors exclusively or primarily, the updated voting policies state that the plan should not provide for any performance-based awards.  Where non-management director grants are made under a broad-based equity plan, Glass Lewis will continue to use its proprietary model to guide its voting recommendations.  However, beginning in 2019, if a broad-based plan allows or explicitly provides for performance-based awards to directors, Glass Lewis may recommend “against” the plan on this basis, particularly if the company has granted performance-based awards to directors in the past. Reduced executive compensation disclosure for smaller reporting companies.  Glass Lewis may recommend votes “against” all compensation committee members when the board has “materially decreased” proxy disclosure about executive compensation practices in a manner that “substantially impacts” shareholders’ ability to make an informed assessment of a company’s executive compensation practices.  In its summary of the 2019 policy updates, Glass Lewis indicates that this new policy applies to smaller reporting companies, in light of recent SEC rule changes to the definition of “smaller reporting company” that expand the number of registrants qualifying for scaled disclosure accommodations in their SEC filings, including in the area of executive compensation. Shareholder Proposals In addition to special meeting shareholder proposals (discussed above), Glass Lewis has also updated its policies on other shareholder proposals in several respects: Environmental and social proposals.  Glass Lewis has formalized the role that financial materiality will play in its consideration of environmental and social proposals.  In the discussion of its “Overall Approach” to these proposals, Glass Lewis states that it will evaluate shareholder proposals on environmental and social issues “in the context of the financial materiality of the issue to the company’s operations” and will “place a significant emphasis on the financial implications of a company adopting, or not adopting” a proposal.  Glass Lewis believes that all companies face risks associated with environmental and social issues, but that these risks manifest themselves differently at different companies, based on factors including a company’s operations, workforce, structure and geography.  Glass Lewis plans to use the standards developed by the Sustainability Accounting Standards Board (“SASB”) to assist it in determining financial materiality. Written consent proposals.  If a company has adopted a special meeting right of 15% or lower and reasonable proxy access provisions, Glass Lewis will generally recommend that shareholders vote “against” a shareholder proposal seeking the right for shareholders to act by written consent. Workforce diversity.  Glass Lewis has adopted a formal policy on shareholder proposals asking companies to provide disclosure about workforce diversity or efforts to promote diversity within the workforce.  In making voting recommendations, Glass Lewis will consider a company’s industry and the nature of its operations, the company’s current disclosures on issues involving workforce diversity, the level of disclosure at peer companies, and any lawsuits or accusations of discrimination within the company. Gibson Dunn’s lawyers are available to assist in addressing any questions you may have about these developments. To learn more about these issues, please contact the Gibson Dunn lawyer with whom you usually work, or any of the following lawyers in the firm’s Securities Regulation and Corporate Governance and Executive Compensation and Employee Benefits practice groups: Securities Regulation and Corporate Governance Group Elizabeth Ising – Washington, D.C. (+1 202-955-8287, eising@gibsondunn.com) Lori Zyskowski – New York (+1 212-351-2309, lzyskowski@gibsondunn.com) Ronald O. Mueller – Washington, D.C. (+1 202-955-8671, rmueller@gibsondunn.com) Gillian McPhee – Washington, D.C. (+1 202-955-8201, gmcphee@gibsondunn.com) Aaron Briggs – San Francisco (+1 415-393-8297, abriggs@gibsondunn.com) Maia Gez – New York (+1 212-351-2612, mgez@gibsondunn.com) Julia Lapitskaya – New York (+1 212-351-2354, jlapitskaya@gibsondunn.com) Michael Titera – Orange County, CA (+1 949-451-4365, mtitera@gibsondunn.com) Executive Compensation and Employee Benefits Group Sean C. Feller – Los Angeles (+1 310-551-8746, sfeller@gibsondunn.com) Michael J. Collins – Washington, D.C. (+1 202-887-3551, mcollins@gibsondunn.com) Krista Hanvey – Dallas (+1 214-698-3425; khanvey@gibsondunn.com)  © 2018 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

October 31, 2018 |
Amendments to Section 205 of the Federal Power Act May Not Have Intended Result

Click for PDF Last week, President Trump signed into law the America’s Water Infrastructure Act of 2018 (the “Act”) that, among other things, amends Section 205 of the Federal Power Act to make it easier to challenge new electric transmission rates for utilities regulated by the Federal Energy Regulatory Commission (“FERC” or “the Commission”). In recent years problems have arisen when the FERC Commissioners are evenly split on an issue (i.e., two-to-two with one Commissioner seat vacant) and when the Commission lacks a quorum of Commissioners (i.e., three or four Commissioner seats are vacant).  In either case, the Commission is unable to issue an order on the merits and thus the Section 205 applications are deemed accepted as a matter of law after 60 days.  Also problematic in these instances is that, because there is no written order, there is nothing to appeal.  Congress passed the Act to, among other things, address this problem and allow for an appeals process. Under Section 205 of the Federal Power Act, absent waiver, FERC-jurisdictional electric utilities must give the Commission and the public 60-days’ notice of any proposed changes to the rates, terms and conditions for transmission service or wholesale sales of electricity.  16 U.S.C. § 824d.  In that 60-day period, the Commission may issue an order accepting, amending, or rejecting the proposed rates, terms and conditions.  It may also take other action such as ordering a trial-like hearing.  Entities displeased with the order may appeal it to the federal courts, but only after they have sought and the Commission has denied a request for rehearing. If the Commission takes no action in that 60-day period, then the rates become effective automatically but, without a written order from the Commission.  This has happened only rarely.  But if it does happen, and there is no written order, then there is no order upon which to request rehearing and thus no avenue for seeking judicial appeal. In recent years there have been multiple prolonged vacancies at the Commission, resulting in either a lack of quorum or two-to-two splits on a matter.  As a result, there may be instances in which the Commissioners are split two-to-two and thus are unable to act upon a Section 205 filing within the statutory 60-day period. This problem first gained lawmakers’ attention after a contentious ISO New England capacity auction in 2014 whose results were filed with FERC for approval under Section 205.  At that time, FERC had four Commissioners who were split two-to-two on whether to approve the auction results.  Consequently, the auction results went into effect by default when the 60-day notice period expired and there was no order for aggrieved parties to challenge before the Commission or in court.  See Notice of Filing Taking Effect by Operation of Law, ISO New England Inc., Docket No. ER14-1409-000 (Sept. 16, 2014). The Act amends Section 205 of the Federal Power Act to address similar results when the Commission is split “two against two . . . as a result of vacancy, incapacity, or recusal, or if the Commission lacks a quorum.”  In those circumstances, the new law provides that “the failure to issue an order accepting or denying” a changed rate “shall be considered to be an order issued by the Commission accepting the change,” and requires each Commissioner to issue a written statement with his or her views on the change.  In addition, the Act provides that if “the Commission fails to act on the merits of the rehearing request [within 30 days] because the Commissioners are divided two against two . . . or if the Commission lacks a quorum, such person may appeal [to federal court].”  This language appears in the new Section 205(g). Perhaps unintentionally, the amended law does not fully resolve the problem Congress seeks to correct as there are at least two ways in which the objective can still be undermined.  Importantly, while the Act permits a path forward towards filing an appeal, entities remain statutorily required to first file requests for rehearing.  In instances where the Commission is divided two-to-two, it could issue a tolling order on the request for rehearing (which is very often done), and this order would indefinitely toll the statutory deadline for issuing a decision on the rehearing request.  Notably, these circumstances are only present when the Commission is split two-to-two, and do not apply when the Commission lacks a quorum. If FERC instead wishes to “kick the can down the road” until five Commissioners are seated, it can issue an order tolling the 30-day deadline and explicitly stating that it needs more time to deliberate and that it is not issuing the tolling order due to a two-to-two split but instead is doing so for some other reason.  Because the new language in Section 205(g) applies only when the Commission fails to issue an order due to a two-to-two split, a tolling order that is specifically not issued for that reason would fall outside the new law’s purview.  The rehearing request could remain undecided and un-appealable indefinitely. A second, thornier problem could arise if a four-member Commission issues a tolling order for a rehearing request but does not explain why it is being issued.  This is a likely scenario, as most tolling orders are brief and boilerplate.  An aggrieved party could interpret FERC’s silence to mean that the Commission is divided two-to-two on the merits.  Accordingly, that party could understand that the new Section 205(g) applies and that the rehearing request is denied as a matter of law after 30 days pass without a FERC order on the merits, and seek judicial review.  The court would need to decide whether it has jurisdiction under the new law, and in turn decide novel questions like whether the challenging party or FERC has the burden to prove that the Commission did or did not issue the tolling order due to a two-to-two split. Because the Commission is currently short a member, and there may be prolonged periods in the future when the Commission lacks five members, the coming months may test the new law’s efficacy. Gibson Dunn’s Energy, Regulation and Litigation lawyers are available to assist in addressing any questions you may have regarding the developments discussed above.  To learn more about these issues, please contact the Gibson Dunn lawyer with whom you usually work, or the authors: William S. Scherman – Washington, D.C. (+1 202-887-3510, wscherman@gibsondunn.com) Jeffrey M. Jakubiak – New York (+1 212-351-2498, jjakubiak@gibsondunn.com) Jennifer C. Mansh – Washington, D.C. (+1 202-955-8590, jmansh@gibsondunn.com) Amy E. Mersol-Barg – Washington, D.C. (+1 202-955-8529, amersolbarg@gibsondunn.com) © 2018 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

October 30, 2018 |
Webcast: Spinning Out and Splitting Off – Navigating Complex Challenges in Corporate Separations

In the current strong market environment, spin-off deals have become a regular feature of the M&A landscape as strategic companies look for ways to maximize the value of various assets. Although the announcements have become routine, planning for and completing these transactions is a significant and multi-disciplinary undertaking. By its nature, a spin-off is at least a 3-in-1 transaction starting with the reorganization and carveout of the assets to be separated, followed by the negotiation of separation-related documents and finally the offering of the securities—and that does not even account for the significant tax, corporate governance, finance, IP and employee benefits aspects of the transaction. In this program, a panel of lawyers from a number of these key practice areas provided insights based on their recent experience structuring and executing spin-off transactions. They walked through the hot topics, common issues and potential work-arounds. View Slides (PDF) PANELISTS: Daniel Angel is a partner in Gibson Dunn’s New York office, Co-Chair of the firm’s Technology Transactions Practice Group and a member of its Strategic Sourcing and Commercial Transactions Practice Group. He is a transactional attorney who has represented clients on technology-related transactions since 2003. Mr. Angel has worked with a broad variety of clients ranging from market leaders to start-ups in a wide range of industries including financial services, private equity funds, life sciences, specialty chemicals, insurance, energy and telecommunications. Michael J. Collins is a partner in Gibson Dunn’s Washington, D.C. office and Co-Chair of the Executive Compensation and Employee Benefits Practice Group. His practice focuses on all aspects of employee benefits and executive compensation. He represents buyers and sellers in corporate transactions and companies in drafting and negotiating employment and equity compensation arrangements. Andrew L. Fabens is a partner in Gibson Dunn’s New York office, Co-Chair of the firm’s Capital Markets Practice Group and a member of the firm’s Securities Regulation and Corporate Governance Practice Group. Mr. Fabens advises companies on long-term and strategic capital planning, disclosure and reporting obligations under U.S. federal securities laws, corporate governance issues and stock exchange listing obligations. He represents issuers and underwriters in public and private corporate finance transactions, both in the United States and internationally. Stephen I. Glover is a partner in Gibson Dunn’s Washington, D.C. office and Co-Chair of the firm’s Mergers and Acquisitions Practice Group. Mr. Glover has an extensive practice representing public and private companies in complex mergers and acquisitions, including spin-offs and related transactions, as well as other corporate matters. Mr. Glover’s clients include large public corporations, emerging growth companies and middle market companies in a wide range of industries. He also advises private equity firms, individual investors and others. Elizabeth A. Ising is a partner in Gibson Dunn’s Washington, D.C. office, Co-Chair of the firm’s Securities Regulation and Corporate Governance Practice Group and a member of the firm’s Hostile M&A and Shareholder Activism team and Financial Institutions Practice Group. She advises clients, including public companies and their boards of directors, on corporate governance, securities law and regulatory matters and executive compensation best practices and disclosures. Saee Muzumdar is a partner in Gibson Dunn’s New York office and a member of the firm’s Mergers and Acquisitions Practice Group. Ms. Muzumdar is a corporate transactional lawyer whose practice includes representing both strategic companies and private equity clients (including their portfolio companies) in connection with all aspects of their domestic and cross-border M&A activities and general corporate counseling. Daniel A. Zygielbaum is an associate in Gibson Dunn’s Washington, D.C. office and a member of the firm’s Tax and Real Estate Investment Trust (REIT) Practice Groups. Mr. Zygielbaum’s practice focuses on international and domestic taxation of corporations, partnerships (including private equity funds), limited liability companies, REITs and their debt and equity investors. He advises clients on tax planning for fund formations and corporate and real estate acquisitions, dispositions, reorganizations and joint ventures. MCLE CREDIT INFORMATION: This program has been approved for credit in accordance with the requirements of the New York State Continuing Legal Education Board for a maximum of 1.50 credit hours, of which 1.50 credit hours may be applied toward the areas of professional practice requirement. This course is approved for transitional/non-transitional credit. Attorneys seeking New York credit must obtain an Affirmation Form prior to watching the archived version of this webcast. Please contact Jeanine McKeown (National Training Administrator), at 213-229-7140 or jmckeown@gibsondunn.com to request the MCLE form. This program has been approved for credit in accordance with the requirements of the Texas State Bar for a maximum of 1.50 credit hours, of which 1.50 credit hour may be applied toward the area of accredited general requirement. Attorneys seeking Texas credit must obtain an Affirmation Form prior to watching the archived version of this webcast. Please contact Jeanine McKeown (National Training Administrator), at 213-229-7140 or jmckeown@gibsondunn.com to request the MCLE form. Gibson, Dunn & Crutcher LLP certifies that this activity has been approved for MCLE credit by the State Bar of California in the amount of 1.50 hours. California attorneys may claim “self-study” credit for viewing the archived version of this webcast. No certificate of attendance is required for California “self-study” credit.

October 22, 2018 |
IRS Provides Much Needed Guidance on Opportunity Zones through Issuance of Proposed Regulations

Click for PDF On October 19, 2018, the Internal Revenue Service (the “IRS“) and the Treasury Department issued proposed regulations (the “Proposed Regulations“) providing rules regarding the establishment and operation of “qualified opportunity funds” and their investment in “opportunity zones.”[1]  The Proposed Regulations address many open questions with respect to qualified opportunity funds, while expressly providing in the preamble that additional guidance will be forthcoming to address issues not resolved by the Proposed Regulations.  The Proposed Regulations should provide investors, sponsors and developers with the answers needed to move forward with projects in opportunity zones. Opportunity Zones Qualified opportunity funds were created as part of the tax law signed into law in December 2017 (commonly known as the Tax Cuts and Jobs Act (“TCJA“)) to incentivize private investment in economically underperforming areas by providing tax benefits for investments through qualified opportunity funds in opportunity zones.  Opportunity zones are low-income communities that were designated by each of the States as qualified opportunity zones – as of this writing, all opportunity zones have been designated, and each designation remains in effect from the date of designation until the end of the tenth year after such designation. Investments in qualified opportunity funds can qualify for three principal tax benefits: (i) a temporary deferral of capital gains that are reinvested in a qualified opportunity fund, (ii) a partial exclusion of those reinvested capital gains on a sliding scale and (iii) a permanent exclusion of all gains realized on an investment in a qualified opportunity fund that is held for a ten-year period. In general, all capital gains realized by a person that are reinvested within 180 days of the recognition of such gain in a qualified opportunity fund for which an election is made are deferred for U.S. federal income tax purposes until the earlier of (i) the date on which such investment is sold or exchanged and (ii) December 31, 2026. In addition, an investor’s tax basis in a qualified opportunity fund for purposes of determining gain or loss, is increased by 10 percent of the amount of gain deferred if the investment is held for five years prior to December 31, 2026 and is increased by an additional 5 percent (for a total increase of 15 percent) of the amount of gain deferred if the investment is held for seven years prior to December 31, 2026. Finally, for investments in a qualified opportunity fund that are attributable to reinvested capital gains and held for at least 10 years, the basis of such investment is increased to the fair market value of the investment on the date of the sale or exchange of such investment, effectively eliminating any gain (other than the deferred gain that was reinvested in the qualified opportunity fund and taxable or excluded as described above) in the investment for U.S. federal income tax purposes (such benefit, the “Ten Year Benefit“). A qualified opportunity fund, in general terms, is a corporation or partnership that invests at least 90 percent of its assets in “qualified opportunity zone property,” which is defined under the TCJA as “qualified opportunity zone business property,” “qualified opportunity zone stock” and “qualified opportunity zone partnership interests.”  Qualified opportunity zone business property is tangible property used in a trade or business within an opportunity zone if, among other requirements, (i) the property is acquired by the qualified opportunity fund by purchase, after December 31, 2017, from an unrelated person, (ii) either the original use of the property in the opportunity zone commences with the qualified opportunity fund or the qualified opportunity fund “substantially improves” the property by doubling the basis of the property over any 30 month period after the property is acquired and (iii) substantially all of the use of the property is within an opportunity zone.  Essentially, qualified opportunity zone stock and qualified opportunity zone partnership interests are stock or interests in a corporation or partnership acquired in a primary issuance for cash after December 31, 2017 and where “substantially all” of the tangible property, whether leased or owned, of the corporation or partnership is qualified opportunity zone business property. The Proposed Regulations – Summary and Observations The powerful tax incentives provided by opportunity zones attracted substantial interest from investors and the real estate community, but many unresolved questions have prevented some taxpayers from availing themselves of the benefits of the law.  A few highlights from the Proposed Regulations, as well as certain issues that were not resolved, are outlined below. Capital Gains The language of the TCJA left open the possibility that both capital gains and ordinary gains (e.g., dealer income) could qualify for deferral if invested in a qualified opportunity fund.  The Proposed Regulations provide that only capital gains, whether short-term or long-term, qualify for deferral if invested in a qualified opportunity fund and further provide that when recognized, any deferred gain will retain its original character as short-term or long-term. Taxpayer Entitled to Deferral The Proposed Regulations make clear that if a partnership recognizes capital gains, then the partnership, and if the partnership does not so elect, the partners, may elect to defer such capital gains.  In addition, the Proposed Regulations provide that in measuring the 180-day period by which capital gains need to be invested in a qualified opportunity fund, the 180-day period for a partner begins on the last day of the partnership’s taxable year in which the gain is recognized, or if a partner elects, the date the partnership recognized the gain.  The Proposed Regulations also state that rules analogous to the partnership rules apply to other pass-through entities, such as S corporations. Ten Year Benefit The Ten Year Benefit attributable to investments in qualified opportunity funds will be realized only if the investment is held for 10 years.  Because all designations of qualified opportunity zones under the TCJA automatically expire no later than December 31, 2028, there was some uncertainly as to whether the Ten Year Benefit applied to investments disposed of after that date.  The Proposed Regulations expressly provide that the Ten Year Benefit rule applies to investments disposed of prior to January 1, 2048. Qualified Opportunity Funds The Proposed Regulations generally provide that a qualified opportunity fund is required to be classified as a corporation or partnership for U.S. federal income tax purposes, must be created or organized in one of the 50 States, the District of Columbia, or, in certain cases a U.S. possession, and will be entitled to self-certify its qualification to be a qualified opportunity fund on an IRS Form 8996, a draft form of which was issued contemporaneously with the issuance of the Proposed Regulations. Substantial Improvements Existing buildings in qualified opportunity zones generally will qualify as qualified opportunity zone business property only if the building is substantially improved, which requires the tax basis of the building to be doubled in any 30-month period after the property is acquired.  In very helpful rule for the real estate community, the Proposed Regulations provide that, in determining whether a building has been substantially improved, any basis attributable to land will not be taken into account.  This rule will allow major renovation projects to qualify for qualified opportunity zone tax benefits, rather than just ground up development.  This rule will also place a premium on taxpayers’ ability to sustain a challenge to an allocation of purchase price to land versus improvements. Ownership of Qualified Opportunity Zone Business Property In order for a fund to qualify as a qualified opportunity fund, at least 90 percent of the fund’s assets must be invested in qualified opportunity zone property, which includes qualified opportunity zone business property.  For shares or interests in a corporation or partnership to qualify as qualified opportunity zone stock or a qualified opportunity zone partnership interest, “substantially all” of the corporation’s or partnership’s assets must be comprised of qualified opportunity zone business property. In a very helpful rule, the Proposed Regulations provide that cash and other working capital assets held for up to 31 months will count as qualified opportunity zone business property, so long as (i) the cash and other working capital assets are held for the acquisition, construction and/or or substantial improvement of tangible property in an opportunity zone, (ii) there is a written plan that identifies the cash and other working capital as held for such purposes, and (iii) the cash and other working capital assets are expended in a manner substantially consistent with that plan. In addition, the Proposed Regulations provide that for purposes of determining whether “substantially all” of a corporation’s or partnership’s tangible property is qualified opportunity zone business property, only 70 percent of the tangible property owned or leased by the corporation or partnership in its trade or business must be qualified opportunity zone business property. Qualified Opportunity Funds Organized as Tax Partnerships Under general partnership tax principles, when a partnership borrows money, the partners are treated as contributing money to the partnership for purposes of determining their tax basis in their partnership interest.  As a result of this rule, there was uncertainty regarding whether investments by a qualified opportunity fund that were funded with debt would result in a partner being treated, in respect of the deemed contribution of money attributable to such debt, as making a contribution to the partnership that was not in respect of reinvested capital gains and, thus, resulting in a portion of such partner’s investment in the qualified opportunity fund failing to qualify for the Ten Year Benefit.  The Proposed Regulations expressly provide that debt incurred by a qualified opportunity fund will not impact the portion of a partner’s investment in the qualified opportunity fund that qualifies for the Ten Year Benefit. The Proposed Regulations did not address many of the other open issues with respect to qualified opportunity funds organized as partnerships, including whether investors are treated as having sold a portion of their interest in a qualified opportunity fund and thus can enjoy the Ten Year Benefit if a qualified opportunity fund treated as a partnership and holding multiple investments disposes of one or more (but not all) of its investments.  Accordingly, until further guidance is issued, we expect to see most qualified opportunity funds organized as single asset corporations or partnerships. Effective Date In general, taxpayers are permitted to rely upon the Proposed Regulations so long as they apply the Proposed Regulations in their entirety and in a consistent manner.    [1]   Prop. Treas. Reg. §1.1400Z-2 (REG-115420-18). Gibson Dunn’s lawyers are available to assist with any questions you may have regarding these developments.  For further information, please contact the Gibson Dunn lawyer with whom you usually work, any member of the Tax Practice Group, or the following authors: Brian W. Kniesly – New York (+1 212-351-2379, bkniesly@gibsondunn.com) Paul S. Issler – Los Angeles (+1 213-229-7763, pissler@gibsondunn.com) Daniel A. Zygielbaum – New York (+1 202-887-3768, dzygielbaum@gibsondunn.com) Please also feel free to contact any of the following leaders and members of the Tax practice group: Jeffrey M. Trinklein – Co-Chair, London/New York (+44 (0)20 7071 4224 / +1 212-351-2344), jtrinklein@gibsondunn.com) David Sinak – Co-Chair, Dallas (+1 214-698-3107, dsinak@gibsondunn.com) David B. Rosenauer – New York (+1 212-351-3853, drosenauer@gibsondunn.com) Eric B. Sloan – New York (+1 212-351-2340, esloan@gibsondunn.com) Romina Weiss – New York (+1 212-351-3929, rweiss@gibsondunn.com) Benjamin Rippeon – Washington, D.C. (+1 202-955-8265, brippeon@gibsondunn.com) Hatef Behnia – Los Angeles (+1 213-229-7534, hbehnia@gibsondunn.com) Dora Arash – Los Angeles (+1 213-229-7134, darash@gibsondunn.com) Scott Knutson – Orange County (+1 949-451-3961, sknutson@gibsondunn.com) © 2018 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

October 18, 2018 |
FERC Issues Long-Awaited Order on Return on Equity for New England Electric Utilities

Click for PDF On October 16, 2018, the Federal Energy Regulatory Commission (“FERC”) issued a long-awaited order on the return on equity (“ROE”) to be used by electric utilities in New England for setting their transmission rates.  The order has major implications for all electric utilities—not just those in New England—because the order establishes a new methodology for reviewing and setting ROEs that will be applied to all FERC-regulated electric utilities going forward.  There is no indication in the order that FERC intends this methodology to apply to natural gas pipeline rates. In Tuesday’s order, FERC charted a wholly new course for setting ROEs by using neither a one-step or two-step discounted cash flow (“DCF”) methodology as it has used historically.  Implicitly responding to long standing criticism of the DCF model, FERC instead adopted a new approach in which it: (i) will first look to whether an existing ROE falls within a particular range of ROEs within a “zone of reasonableness” established through three separate financial models (one of which is the DCF) and then, if the ROE falls outside the range, (ii) it will establish a new ROE through application of four separate methodologies for estimating ROEs. The order was issued in four separate but related proceedings initiated by complaints filed against the New England utilities.  One of these proceedings was on remand from the U.S. Court of Appeals for the D.C. Circuit’s 2017 decision in Emera Maine v. FERC.  Three were pending before FERC on “exceptions” (i.e., appeal) from FERC administrative law judge (“ALJ”) decisions issued in 2016 and 2018. These four related cases began with a complaint filed against New England’s utilities on September 30, 2011 by Martha Coakley, the Attorney General of Massachusetts, and other entities and state agencies.  FERC set that matter for hearing before an ALJ but, on appeal of the ALJ’s decision, issued its then-seminal 2014 order in Coakley v. Bangor Hydro in which it changed its historic methodology for setting electric utility ROEs. Prior to Coakley, FERC established electric utility ROEs based on a “one-step” DCF methodology that estimated actual ROEs of publicly traded electric utilities to determine the appropriate ROE for the subject utility.  More specifically, the methodology calculated what investors in comparable utilities expected for ROEs (as evidenced by dividend yields and analyst earnings forecasts) and then set the ROE for the subject utility at either the midpoint or median of the range of ROEs of these comparable utilities (the so-called “zone of reasonableness”). In Coakley, FERC instead used a “two-step” DCF methodology to set the ROEs for the New England utilities.  This methodology, which had been used by FERC for natural gas pipelines for some time, looked not only at ROEs of comparable utilities but also at long-term economic growth forecasts.  All things being equal, the two-step methodology thus resulted in a lower ROE than the one-step methodology because long-term forecast economic growth generally is lower than ROEs imputed from divided yields and earnings forecasts.  However, in a major departure from precedent, FERC set the ROE for the New England utilities not at the median or midpoint of the zone of reasonableness, but at the midpoint of the upper half of the zone.  FERC explained that anomalous capital market conditions justified this departure from precedent. From 2012 to 2014, three additional complaints were filed against the New England utilities by a variety of entities seeking lower ROEs.  FERC set all three for hearing before ALJs.  All three resulted in ALJ decisions that were appealed up to FERC, where they remain pending, and partially rendered moot by yesterday’s FERC order. The Coakley decision was widely criticized as an opportunistic means to lowering overall returns at a time when lower interest rates were actually encouraging new infrastructure investment.  The decision was appealed to the U.S. Court of Appeals for the D.C. Circuit by both the utilities and their customers. The Court in 2017—in an order titled Emera Maine v. FERC—found in part for the utilities and in part for the customers.  Finding for the customers, the Court held that an existing ROE that falls within the zone of reasonableness is not per se just and reasonable and, thus, may be changed by FERC.  Finding for the utilities, the Court held that FERC had not adequately shown that the New England utilities’ existing ROE was unjust and reasonable.  The Court thus vacated the underlying Coakley decision and remanded the matter to FERC.  But by vacating the underlying decision, the Court gave FERC wide berth in adopting a new and revised approach to establishing ROE policy. Yesterday’s FERC order addresses the Coakley decision’s shortcomings identified by the Court in Emera Maine v. FERC by establishing a clear two-step approach to ROE complaint matters.  But it goes much further by looking beyond DCF analyses and espousing a methodology that uses multiple financial models. First, FERC proposes using three different financial models—the DCF, the CAPM, and the Expected Earnings models—to establish a zone of reasonableness of estimated ROEs enjoyed by utilities with comparable risk to that at issue (with risk generally indicated by credit ratings).  The DCF model, as noted, has historically been the sole model used by FERC to establish the zone of reasonableness and, if necessary, the new ROE; parties, however, have often presented evidence of results from the CAPM or Expected Earnings models as additional evidence seeking to support or refute the DCF results. Importantly, FERC held that if a utility’s existing ROE falls within a particular range (i.e., effectively a sub-zone) within the zone of reasonableness it will be presumed to be just and reasonable.  As a result, FERC will dismiss a complaint if the ROE falls within the range unless other evidence sufficiently rebuts that presumption.  Given the D.C. Circuit’s ruling in Emera Maine v. FERC, this part of FERC’s order will likely be challenged in court again. Second, if the existing ROE is found to be unjust and unreasonable, FERC will establish a new ROE based on four financial models—the three used to set the zone of reasonableness as well as the Risk Premium Model.  More specifically, FERC will set the new ROE at the average of (i) the midpoints or medians of the zones of reasonableness established by the DCF, the CAPM, and the Expected Earnings models and (ii) the single numerical result of the Risk Premium Model (which, like the CAPM and Expected Earnings models, has been used in FERC proceedings as additional evidence).  More detail on the models is provided in an appendix to the FERC order. As FERC applied this new methodology to the pending New England utility cases, it found that the range for evaluating the current ROE is 9.60 percent to 10.99 percent and that the pre-Coakley 11.14 percent ROE for the utilities is unjust and unreasonable.  FERC then applied the new composite methodology to setting ROEs and reached a “preliminary” finding that a 10.41 percent ROE is just and reasonable.  FERC however established a “paper hearing” and invited parties to submit briefs regarding the proposed new approach to ROEs and its application to the four New England complaint proceedings.  Initial briefs are due within 60 days of the date of the order and reply briefs are due 30 days thereafter. The order was issued by Chairman McIntryre, and Commissioners LaFleur and Chatterjee. Commissioner Glick did not participate in the decision, but no reason was given.  It is suspected that Commissioner Glick recused himself because he previously worked for Iberdrola, the parent of two of the New England electric utilities directly impacted by the order. On balance, FERC’s new approach, while complicated, appears to be a sounder approach to establishing ROEs than simply using the DCF method.  However, the order fails to specify many implementation details that will need to be hashed out in the upcoming briefing process.  How these details are determined will have a large impact on the end result of the new approach.  And all of this will likely be done in the context of rising interest rates and the need to invest in new transmission infrastructure in a number of parts of the country. Gibson Dunn’s Energy, Regulation and Litigation lawyers are available to assist in addressing any questions you may have regarding the developments discussed above.  To learn more about these issues, please contact the Gibson Dunn lawyer with whom you usually work, or the authors: William S. Scherman – Washington, D.C. (+1 202-887-3510, wscherman@gibsondunn.com) Jeffrey M. Jakubiak – New York (+1 212-351-2498, jjakubiak@gibsondunn.com) Jennifer C. Mansh – Washington, D.C. (+1 202-955-8590, jmansh@gibsondunn.com) © 2018 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

October 17, 2018 |
SEC Warns Public Companies on Cyber-Fraud Controls

Click for PDF On October 16, 2018, the Securities and Exchange Commission issued a report warning public companies about the importance of internal controls to prevent cyber fraud.  The report described the SEC Division of Enforcement’s investigation of multiple public companies which had collectively lost nearly $100 million in a range of cyber-scams typically involving phony emails requesting payments to vendors or corporate executives.[1] Although these types of cyber-crimes are common, the Enforcement Division notably investigated whether the failure of the companies’ internal accounting controls to prevent unauthorized payments violated the federal securities laws.  The SEC ultimately declined to pursue enforcement actions, but nonetheless issued a report cautioning public companies about the importance of devising and maintaining a system of internal accounting controls sufficient to protect company assets. While the SEC has previously addressed the need for public companies to promptly disclose cybersecurity incidents, the new report sees the agency wading into corporate controls designed to mitigate such risks.  The report encourages companies to calibrate existing internal controls, and related personnel training, to ensure they are responsive to emerging cyber threats.  The report (issued to coincide with National Cybersecurity Awareness Month) clearly intends to warn public companies that future investigations may result in enforcement action. The Report of Investigation Section 21(a) of the Securities Exchange Act of 1934 empowers the SEC to issue a public Report of Investigation where deemed appropriate.  While SEC investigations are confidential unless and until the SEC files an enforcement action alleging that an individual or entity has violated the federal securities laws, Section 21(a) reports provide a vehicle to publicize investigative findings even where no enforcement action is pursued.  Such reports are used sparingly, perhaps every few years, typically to address emerging issues where the interpretation of the federal securities laws may be uncertain.  (For instance, recent Section 21(a) reports have addressed the treatment of digital tokens as securities and the use of social media to disseminate material corporate information.) The October 16 report details the Enforcement Division’s investigations into the internal accounting controls of nine issuers, across multiple industries, that were victims of cyber-scams. The Division identified two specific types of cyber-fraud – typically referred to as business email compromises or “BECs” – that had been perpetrated.  The first involved emails from persons claiming to be unaffiliated corporate executives, typically sent to finance personnel directing them to wire large sums of money to a foreign bank account for time-sensitive deals. These were often unsophisticated operations, textbook fakes that included urgent, secret requests, unusual foreign transactions, and spelling and grammatical errors. The second type of business email compromises were harder to detect. Perpetrators hacked real vendors’ accounts and sent invoices and requests for payments that appeared to be for otherwise legitimate transactions. As a result, issuers made payments on outstanding invoices to foreign accounts controlled by impersonators rather than their real vendors, often learning of the scam only when the legitimate vendor inquired into delinquent bills. According to the SEC, both types of frauds often succeeded, at least in part, because responsible personnel failed to understand their company’s existing cybersecurity controls or to appropriately question the veracity of the emails.  The SEC explained that the frauds themselves were not sophisticated in design or in their use of technology; rather, they relied on “weaknesses in policies and procedures and human vulnerabilities that rendered the control environment ineffective.” SEC Cyber-Fraud Guidance Cybersecurity has been a high priority for the SEC dating back several years. The SEC has pursued a number of enforcement actions against registered securities firms arising out of data breaches or deficient controls.  For example, just last month the SEC brought a settled action against a broker-dealer/investment-adviser which suffered a cyber-intrusion that had allegedly compromised the personal information of thousands of customers.  The SEC alleged that the firm had failed to comply with securities regulations governing the safeguarding of customer information, including the Identity Theft Red Flags Rule.[2] The SEC has been less aggressive in pursuing cybersecurity-related actions against public companies.  However, earlier this year, the SEC brought its first enforcement action against a public company for alleged delays in its disclosure of a large-scale data breach.[3] But such enforcement actions put the SEC in the difficult position of weighing charges against companies which are themselves victims of a crime.  The SEC has thus tried to be measured in its approach to such actions, turning to speeches and public guidance rather than a large number of enforcement actions.  (Indeed, the SEC has had to make the embarrassing disclosure that its own EDGAR online filing system had been hacked and sensitive information compromised.[4]) Hence, in February 2018, the SEC issued interpretive guidance for public companies regarding the disclosure of cybersecurity risks and incidents.[5]  Among other things, the guidance counseled the timely public disclosure of material data breaches, recognizing that such disclosures need not compromise the company’s cybersecurity efforts.  The guidance further discussed the need to maintain effective disclosure controls and procedures.  However, the February guidance did not address specific controls to prevent cyber incidents in the first place. The new Report of Investigation takes the additional step of addressing not just corporate disclosures of cyber incidents, but the procedures companies are expected to maintain in order to prevent these breaches from occurring.  The SEC noted that the internal controls provisions of the federal securities laws are not new, and based its report largely on the controls set forth in Section 13(b)(2)(B) of the Exchange Act.  But the SEC emphasized that such controls must be “attuned to this kind of cyber-related fraud, as well as the critical role training plays in implementing controls that serve their purpose and protect assets in compliance with the federal securities laws.”  The report noted that the issuers under investigation had procedures in place to authorize and process payment requests, yet were still victimized, at least in part “because the responsible personnel did not sufficiently understand the company’s existing controls or did not recognize indications in the emailed instructions that those communications lacked reliability.” The SEC concluded that public companies’ “internal accounting controls may need to be reassessed in light of emerging risks, including risks arising from cyber-related frauds” and “must calibrate their internal accounting controls to the current risk environment.” Unfortunately, the vagueness of such guidance leaves the burden on companies to determine how best to address emerging risks.  Whether a company’s controls are adequate may be judged in hindsight by the Enforcement Division; not surprisingly, companies and individuals under investigation often find the staff asserting that, if the controls did not prevent the misconduct, they were by definition inadequate.  Here, the SEC took a cautious approach in issuing a Section 21(a) report highlighting the risk rather than publicly identifying and penalizing the companies which had already been victimized by these scams. However, companies and their advisors should assume that, with this warning shot across the bow, the next investigation of a similar incident may result in more serious action.  Persons responsible for designing and maintaining the company’s internal controls should consider whether improvements (such as enhanced trainings) are warranted; having now spoken on the issue, the Enforcement Division is likely to view corporate inaction as a factor in how it assesses the company’s liability for future data breaches and cyber-frauds.    [1]   SEC Press Release (Oct. 16, 2018), available at www.sec.gov/news/press-release/2018-236; the underlying report may be found at www.sec.gov/litigation/investreport/34-84429.pdf.    [2]   SEC Press Release (Sept. 16, 2018), available at www.sec.gov/news/press-release/2018-213.  This enforcement action was particularly notable as the first occasion the SEC relied upon the rules requiring financial advisory firms to maintain a robust program for preventing identify theft, thus emphasizing the significance of those rules.    [3]   SEC Press Release (Apr. 24, 2018), available at www.sec.gov/news/press-release/2018-71.    [4]   SEC Press Release (Oct. 2, 2017), available at www.sec.gov/news/press-release/2017-186.    [5]   SEC Press Release (Feb. 21, 2018), available at www.sec.gov/news/press-release/2018-22; the guidance itself can be found at www.sec.gov/rules/interp/2018/33-10459.pdf.  The SEC provided in-depth guidance in this release on disclosure processes and considerations related to cybersecurity risks and incidents, and complements some of the points highlighted in the Section 21A report. Gibson Dunn’s lawyers are available to assist with any questions you may have regarding these issues.  For further information, please contact the Gibson Dunn lawyer with whom you usually work in the firm’s Securities Enforcement or Privacy, Cybersecurity and Consumer Protection practice groups, or the following authors: Marc J. Fagel – San Francisco (+1 415-393-8332, mfagel@gibsondunn.com) Alexander H. Southwell – New York (+1 212-351-3981, asouthwell@gibsondunn.com) Please also feel free to contact the following practice leaders and members: Securities Enforcement Group: New York Barry R. Goldsmith – Co-Chair (+1 212-351-2440, bgoldsmith@gibsondunn.com) Mark K. Schonfeld – Co-Chair (+1 212-351-2433, mschonfeld@gibsondunn.com) Reed Brodsky (+1 212-351-5334, rbrodsky@gibsondunn.com) Joel M. Cohen (+1 212-351-2664, jcohen@gibsondunn.com) Lee G. Dunst (+1 212-351-3824, ldunst@gibsondunn.com) Laura Kathryn O’Boyle (+1 212-351-2304, loboyle@gibsondunn.com) Alexander H. Southwell (+1 212-351-3981, asouthwell@gibsondunn.com) Avi Weitzman (+1 212-351-2465, aweitzman@gibsondunn.com) Lawrence J. Zweifach (+1 212-351-2625, lzweifach@gibsondunn.com) Washington, D.C. Richard W. Grime – Co-Chair (+1 202-955-8219, rgrime@gibsondunn.com) Stephanie L. Brooker  (+1 202-887-3502, sbrooker@gibsondunn.com) Daniel P. Chung (+1 202-887-3729, dchung@gibsondunn.com) Stuart F. Delery (+1 202-887-3650, sdelery@gibsondunn.com) Patrick F. Stokes (+1 202-955-8504, pstokes@gibsondunn.com) F. Joseph Warin (+1 202-887-3609, fwarin@gibsondunn.com) San Francisco Marc J. Fagel – Co-Chair (+1 415-393-8332, mfagel@gibsondunn.com) Winston Y. Chan (+1 415-393-8362, wchan@gibsondunn.com) Thad A. Davis (+1 415-393-8251, tdavis@gibsondunn.com) Charles J. Stevens (+1 415-393-8391, cstevens@gibsondunn.com) Michael Li-Ming Wong (+1 415-393-8234, mwong@gibsondunn.com) Palo Alto Paul J. Collins (+1 650-849-5309, pcollins@gibsondunn.com) Benjamin B. Wagner (+1 650-849-5395, bwagner@gibsondunn.com) Denver Robert C. Blume (+1 303-298-5758, rblume@gibsondunn.com) Monica K. Loseman (+1 303-298-5784, mloseman@gibsondunn.com) Los Angeles Michael M. Farhang (+1 213-229-7005, mfarhang@gibsondunn.com) Douglas M. Fuchs (+1 213-229-7605, dfuchs@gibsondunn.com) Privacy, Cybersecurity and Consumer Protection Group: Alexander H. Southwell – Co-Chair, New York (+1 212-351-3981, asouthwell@gibsondunn.com) M. Sean Royall – Dallas (+1 214-698-3256, sroyall@gibsondunn.com) Debra Wong Yang – Los Angeles (+1 213-229-7472, dwongyang@gibsondunn.com) Christopher Chorba – Los Angeles (+1 213-229-7396, cchorba@gibsondunn.com) Richard H. Cunningham – Denver (+1 303-298-5752, rhcunningham@gibsondunn.com) Howard S. Hogan – Washington, D.C. (+1 202-887-3640, hhogan@gibsondunn.com) Joshua A. Jessen – Orange County/Palo Alto (+1 949-451-4114/+1 650-849-5375, jjessen@gibsondunn.com) Kristin A. Linsley – San Francisco (+1 415-393-8395, klinsley@gibsondunn.com) H. Mark Lyon – Palo Alto (+1 650-849-5307, mlyon@gibsondunn.com) Shaalu Mehra – Palo Alto (+1 650-849-5282, smehra@gibsondunn.com) Karl G. Nelson – Dallas (+1 214-698-3203, knelson@gibsondunn.com) Eric D. Vandevelde – Los Angeles (+1 213-229-7186, evandevelde@gibsondunn.com) Benjamin B. Wagner – Palo Alto (+1 650-849-5395, bwagner@gibsondunn.com) Michael Li-Ming Wong – San Francisco/Palo Alto (+1 415-393-8333/+1 650-849-5393, mwong@gibsondunn.com) Ryan T. Bergsieker – Denver (+1 303-298-5774, rbergsieker@gibsondunn.com) © 2018 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

October 15, 2018 |
Flood v. Synutra Refines “Ab Initio” Requirement for Business Judgment Review of Controller Transactions

Click for PDF On October 9, 2018, in Flood v. Synutra Intth’l, Inc.,[1] the Delaware Supreme Court further refined when in a controller transaction the procedural safeguards of Kahn v. M & F Worldwide Corp.[2] (“MFW“) must be implemented to obtain business judgment rule review of the transaction.  Under MFW, a merger with a controlling stockholder will be reviewed under the deferential business judgment rule standard, rather than the stringent entire fairness standard, if the merger is conditioned “ab initio” upon approval by both an independent, adequately-empowered Special Committee that fulfills its duty of care, and the uncoerced, informed vote of a majority of the minority stockholders.[3]  Writing for the majority in Synutra, Chief Justice Strine emphasized that the objective of MFW and its progeny is to incentivize controlling stockholders to adopt the MFW procedural safeguards early in the transaction process, because those safeguards can provide minority stockholders with the greatest likelihood of receiving terms and conditions that most closely resemble those that would be available in an arms’ length transaction with a non-affiliated third party.  Accordingly, the Court held that “ab initio” (Latin for “from the beginning”) requires that the MFW protections be in place prior to any substantive economic negotiations taking place with the target (or its board or Special Committee).  The Court declined to adopt a “bright line” rule that the MFW procedures had to be a condition of the controller’s “first offer” or other initial communication with the target about a potential transaction. Factual Background Synutra affirmed the Chancery Court’s dismissal of claims against Liang Zhang and related entities, who controlled 63.5% of Synutra’s stock.  In January 2016, Zhang wrote a letter to the Synutra board proposing to take the company private, but failed to include the MFW procedural prerequisites of Special Committee and majority of the minority approvals in the initial bid.  One week after Zhang’s first letter, the board formed a Special Committee to evaluate the proposal and, one week after that, Zhang submitted a revised bid letter that included the MFW protections.  The Special Committee declined to engage in any price negotiations until it had retained and received projections from its own investment bank, and such negotiations did not begin until seven months after Zhang’s second offer. Ab Initio Requirement The plaintiff argued that because Zhang’s initial letter did not contain the dual procedural safeguards of MFW as pre-conditions of any transaction, the “ab initio” requirement of MFW was not satisfied and therefore business judgment standard of review had been irreparably forfeited.  The Court declined to adopt this rigid position, and considered that “ab initio” for MFW purposes can be assessed more flexibly.  To arrive at this view, the Court explored the meaning of “the beginning” as used in ordinary language to denote an early period rather than a fixed point in time.  The Court also parsed potential ambiguities in the language of the Chancery Court’s MFW opinion, which provided that MFW pre-conditions must be in place “from the time of the controller’s first overture”[4] and “from inception.”[5] Ultimately, the Court looked to the purpose of the MFW protections to find that “ab initio” need not be read as referring to the single moment of a controller’s first offer.  As Synutra emphasizes, the key is that the controller not be able to trade adherence to MFW protections for a concession on price.  Hence the “ab initio” analysis focuses on whether deal economics remain untainted by controller coercion, so that the transaction can approximate an arms’ length transaction process with an unaffiliated third party.  As such, the Court’s reasoning is consistent with the standard espoused by the Chancery Court in its prior decision in Swomley v. Schlecht,[6] which the Court summarily affirmed in 2015, that MFW requires procedural protections be in place prior to the commencement of negotiations.[7] In a lengthy dissent, Justice Valihura opined that the “ab initio” requirement should be deemed satisfied only when MFW safeguards are included in the controller’s initial formal written proposal, and that the “negotiations” test undesirably introduces the potential for a fact-intensive inquiry that would complicate a pleadings-stage decision on what standard of review should be applied.  Chief Justice Strine acknowledged the potential appeal of a bright line test but ultimately rejected it because of the Court’s desire to provide strong incentive and opportunity for controllers to adopt and adhere to the MFW procedural safeguards, for the benefit of minority stockholders.  In doing so, the Court acknowledged that its approach “may give rise to close cases.”  However, the Court went on to add, “our Chancery Court is expert in the adjudication of corporate law cases.”  The Court also concluded that the facts in Synutra did not make it a close case.[8] Duty of Care The Court also upheld the Chancery Court’s dismissal of plaintiff’s claim that the Special Committee had breached its duty of care by failing to obtain a sufficient price.  Following the Chancery Court’s reasoning in Swomley, Synutra held that where the procedural safeguards of MFW have been observed, there is no duty of care breach at issue where a plaintiff alleges that a Special Committee could have negotiated differently or perhaps obtained a better price – what the Chancery Court in Swomley described as “a matter of strategy and tactics that’s debatable.”[9]  Instead, the Court confirmed that a duty of care violation would require a finding that the Special Committee had acted in a grossly negligent fashion.  Observing that the Synutra Special Committee had retained qualified and independent financial and legal advisors and engaged in a lengthy negotiation and deal process, the Court found nothing to support an inference of gross negligence and thus deferred to the Special Committee regarding deal price.[10] Procedural Posture Synutra dismissed the plaintiff’s complaint at the pleadings stage.  In its procedural posture, the Court followed Swomley, which allowed courts to resolve the MFW analysis based on the pleadings.  The dissent noted that adoption of a bright-line test would be more appropriate for pleadings-stage dismissals.  However, the Court established that it would be willing to engage some degree of fact-finding at the pleadings stage in order to allow cases to be dismissed at the earliest opportunity, even using the Court’s admittedly more flexible view of the application of MFW. Takeaways Synutra reaffirms the Court’s commitment to promoting implementation of MFW safeguards in controller transactions.  In particular: The Court will favor a pragmatic, flexible approach to “ab initio” determination, with the intent of determining whether the application of the MFW procedural safeguards have been used to affect or influence a transaction’s economics; Once a transaction has business judgment rule review, the Court will not inquire further as to sufficiency of price or terms absent egregious or reckless conduct by a Special Committee; and Since the goal is to incentivize the controller to follow MFW at a transaction’s earliest stages, complaints can be dismissed on the pleadings, thus avoiding far more costly and time consuming summary judgment motions. Although under Synutra a transaction may receive business judgment rule review despite unintentional or premature controller communications that do not reference the MFW procedural safeguards as inherent deal pre-conditions, deal professionals would be well advised not to push this flexibility too far.  Of course, there can be situations where a controller concludes that deal execution risks or burdens attendant to observance of the MFW safeguards are too great (or simply not feasible), and thus is willing to confront the close scrutiny of an entire fairness review if a deal is later challenged.  However, if a controller wants to ensure it will receive the benefit of business judgment rule review, the prudent course is to indicate, in any expression of interest, no matter how early or informal, that adherence to MFW procedural safeguards is a pre-condition to any transaction.  Synutra makes clear that the availability of business judgment review under MFW will be a facts and circumstances assessment, but we do not yet know what the outer limits of the Court’s flexibility will be, should it have to consider a more contentious set of facts in the future. [1]       Flood v. Synutra Int’l, Inc., No. 101, 2018 WL 4869248 (Del. Oct. 9, 2018). [2]      Kahn v. M&F Worldwide Corp., 88 A.3d 635 (Del. 2014). [3]      Id. at 644. [4]      In re MFW Shareholders Litigation, 67 A.3d 496, 503 (Del. Ch. 2013). [5]      Id. at 528. [6]      Swomley v. Schlecht, 2014 WL 4470947 (Del. Ch. 2014), aff’d 128 A.3d 992 (Del. 2015) (TABLE). [7]      The Court did not consider that certain matters that transpired between Zhang’s first and second offer letters, namely Synutra’s granting of a conflict waiver to allow its long-time counsel to represent Zhang (the Special Committee subsequently hired separate counsel), constituted substantive “negotiations” for this purpose since the waiver was not exchanged for any economic consideration. [8]      Synutra, 2018 WL 4869248, at *8. [9]      Id. at *11, citing Swomley, 2014 WL 4470947, at 21. [10]     In a footnote, the Court expressly overruled dicta in its MFW decision that the plaintiff cited to argue that a duty of care claim could be premised on the Special Committee’s obtaining of an allegedly insufficient price.  Id. at *10, Footnote 81. The following Gibson Dunn lawyers assisted in preparing this client update: Barbara Becker, Jeffrey Chapman, Stephen Glover, Mark Director, Eduardo Gallardo, Marina Szteinbok and Justice Flores. Gibson Dunn’s lawyers are available to assist with any questions you may have regarding these issues.  For further information, please contact the Gibson Dunn lawyer with whom you usually work, the authors, or any of the following leaders and members of the firm’s Mergers and Acquisitions practice group: Mergers and Acquisitions Group / Corporate Transactions: Barbara L. Becker – Co-Chair, New York (+1 212-351-4062, bbecker@gibsondunn.com) Jeffrey A. Chapman – Co-Chair, Dallas (+1 214-698-3120, jchapman@gibsondunn.com) Stephen I. Glover – Co-Chair, Washington, D.C. (+1 202-955-8593, siglover@gibsondunn.com) Dennis J. Friedman – New York (+1 212-351-3900, dfriedman@gibsondunn.com) Jonathan K. Layne – Los Angeles (+1 310-552-8641, jlayne@gibsondunn.com) Mark D. Director – Washington, D.C./New York (+1 202-955-8508/+1 212-351-5308, mdirector@gibsondunn.com) Eduardo Gallardo – New York (+1 212-351-3847, egallardo@gibsondunn.com) Saee Muzumdar – New York (+1 212-351-3966, smuzumdar@gibsondunn.com) Mergers and Acquisitions Group / Litigation: Meryl L. Young – Orange County (+1 949-451-4229, myoung@gibsondunn.com) Brian M. Lutz – San Francisco (+1 415-393-8379, blutz@gibsondunn.com) Aric H. Wu – New York (+1 212-351-3820, awu@gibsondunn.com) Paul J. Collins – Palo Alto (+1 650-849-5309, pcollins@gibsondunn.com) Michael M. Farhang – Los Angeles (+1 213-229-7005, mfarhang@gibsondunn.com) Joshua S. Lipshutz – Washington, D.C. (+1 202-955-8217, jlipshutz@gibsondunn.com) Adam H. Offenhartz – New York (+1 212-351-3808, aoffenhartz@gibsondunn.com) © 2018 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

October 10, 2018 |
Artificial Intelligence and Autonomous Systems Legal Update (3Q18)

Click for PDF We are pleased to provide the following update on recent legal developments in the areas of artificial intelligence, machine learning, and autonomous systems (or “AI” for short), and their implications for companies developing or using products based on these technologies.  As the spread of AI rapidly increases, legal scrutiny in the U.S. of the potential uses and effects of these technologies (both beneficial and harmful) has also been increasing.  While we have chosen to highlight below several governmental and legislative actions from the past quarter, the area is rapidly evolving and we will continue to monitor further actions in these and related areas to provide future updates of potential interest on a regular basis. I.       Increasing Federal Government Interest in AI Technologies The Trump Administration and Congress have recently taken a number of steps aimed at pushing AI forward on the U.S. agenda, while also treating with caution foreign involvement in U.S.-based AI technologies.  Some of these actions may mean additional hurdles for cross-border transactions involving AI technology.  On the other hand, there may also be opportunities for companies engaged in the pursuit of AI technologies to influence the direction of future legislation at an early stage. A.       White House Studies AI In May, the Trump Administration kicked off what is becoming an active year in AI for the federal government by hosting an “Artificial Intelligence for American Industry” summit as part of its designation of AI as an “Administration R&D priority.”[1] During the summit, the White House also announced the establishment of a “Select Committee on Artificial Intelligence” to advise the President on research and development priorities and explore partnerships within the government and with industry.[2]  This Select Committee is housed within the National Science and Technology Council, and is chaired by Office of Science and Technology Policy leadership. Administration officials have said that a focus of the Select Committee will be to look at opportunities for increasing federal funds into AI research in the private sector, to ensure that the U.S. has (or maintains) a technological advantage in AI over other countries.  In addition, the Committee is to look at possible uses of the government’s vast store of taxpayer-funded data to promote the development of advanced AI technologies, without compromising security or individual privacy.  While it is believed that there will be opportunities for private stakeholders to have input into the Select Committee’s deliberations, the inaugural meeting of the Committee, which occurred in late June, was not open to the public for input. B.       AI in the NDAA for 2019 More recently, on August 13th, President Trump signed into law the John S. McCain National Defense Authorization Act (NDAA) for 2019,[3] which specifically authorizes the Department of Defense to appoint a senior official to coordinate activities relating to the development of AI technologies for the military, as well as to create a strategic plan for incorporating a number of AI technologies into its defense arsenal.  In addition, the NDAA includes the Foreign Investment Risk Review Modernization Act (FIRRMA)[4] and the Export Control Reform Act (ECRA),[5] both of which require the government to scrutinize cross-border transactions involving certain new technologies, likely including AI-related technologies. FIRRMA modifies the review process currently used by the Committee on Foreign Investment in the United States (CFIUS), an interagency committee that reviews the national security implications of investments by foreign entities in the United States.  With FIRRMA’s enactment, the scope of the transactions that CFIUS can review is expanded to include those involving “emerging and foundational technologies,” defined as those that are critical for maintaining the national security technological advantage of the United States.  While the changes to the CFIUS process are still fresh and untested, increased scrutiny under FIRRMA will likely have an impact on available foreign investment in the development and use of AI, at least where the AI technology involved is deemed such a critical technology and is sought to be purchased or licensed by foreign investors. Similarly, ECRA requires the President to establish an interagency review process with various agencies including the Departments of Defense, Energy, State and the head of other agencies “as appropriate,” to identify emerging and foundational technologies essential to national security in order to impose appropriate export controls.  Export licenses are to be denied if the proposed export would have a “significant negative impact” on the U.S. defense industrial base.  The terms “emerging and foundational technologies” are not expressly defined, but it is likely that AI technologies, which are of course “emerging,” would receive a close look under ECRA and that ECRA might also curtail whether certain AI technologies can be sold or licensed to foreign entities. The NDAA also established a National Security Commission on Artificial Intelligence “to review advances in artificial intelligence, related machine learning developments, and associated technologies.”  The Commission, made up of certain senior members of Congress as well as the Secretaries of Defense and Commerce, will function independently from other such panels established by the Trump Administration and will review developments in AI along with assessing risks related to AI and related technologies to consider how those methods relate to the national security and defense needs of the United States.  The Commission will focus on technologies that provide the U.S. with a competitive AI advantage, and will look at the need for AI research and investment as well as consider the legal and ethical risks associated with the use of AI.  Members are to be appointed within 90 days of the Commission being established and an initial report to the President and Congress is to be submitted by early February 2019. C.       Additional Congressional Interest in AI/Automation While a number of existing bills with potential impacts on the development of AI technologies remain stalled in Congress,[6] two more recently-introduced pieces of legislation are also worth monitoring as they progress through the legislative process. In late June, Senator Feinstein (D-CA) sponsored the “Bot Disclosure and Accountability Act of 2018,” which is intended to address  some of the concerns over the use of automated systems for distributing content through social media.[7] As introduced, the bill seeks to prohibit certain types of bot or other automated activity directed to political advertising, at least where such automated activity appears to impersonate human activity.  The bill would also require the Federal Trade Commission to establish and enforce regulations to require public disclosure of the use of bots, defined as any “automated software program or process intended to impersonate or replicate human activity online.”  The bill provides that any such regulations are to be aimed at the “social media provider,” and would place the burden of compliance on such providers of social media websites and other outlets.  Specifically, the FTC is to promulgate regulations requiring the provider to take steps to ensure that any users of a social media website owned or operated by the provider would receive “clear and conspicuous notice” of the use of bots and similar automated systems.  FTC regulations would also require social media providers to police their systems, removing non-compliant postings and/or taking other actions (including suspension or removal) against users that violate such regulations.  While there are significant differences, the Feinstein bill is nevertheless similar in many ways to California’s recently-enacted Bot disclosure law (S.B. 1001), discussed more fully in our previous client alert located here.[8] Also of note, on September 26th, a bipartisan group of Senators introduced the “Artificial Intelligence in Government Act,” which seeks to provide the federal government with additional resources to incorporate AI technologies in the government’s operations.[9] As written, this new bill would require the General Services Administration to bring on technical experts to advise other government agencies, conduct research into future federal AI policy, and promote inter-agency cooperation with regard to AI technologies.  The bill would also create yet another federal advisory board to advise government agencies on AI policy opportunities and concerns.  In addition, the newly-introduced legislation seeks to require the Office of Management and Budget to identify ways for the federal government to invest in and utilize AI technologies and tasks the Office of Personal Management with anticipating and providing training for the skills and competencies the government requires going-forward for incorporating AI into its overall data strategy. II.       Potential Impact on AI Technology of Recent California Privacy Legislation Interestingly, in the related area of data privacy regulation, the federal government has been slower to respond, and it is the state legislatures that are leading the charge.[10] Most machine learning algorithms depend on the availability of large data sets for purpose of training, testing, and refinement.  Typically, the larger and more complete the datasets available, the better.  However, these datasets often include highly personal information about consumers, patients, or others of interest—data that can sometimes be used to predict information specific to a particular person even if attempts are made to keep the source of such data anonymous. The European Union’s General Data Protection Regulation, or GDPR, which went into force on May 25, 2018, has deservedly garnered a great deal of press as one of the first, most comprehensive collections of data privacy protections. While we’re only months into its effective period, the full impact and enforcement of the GDPR’s provisions have yet to be felt.  Still, many U.S. companies, forced to take steps to comply with the provisions of GDPR at least with regard to EU citizens, have opted to take many of those same steps here in the U.S., despite the fact that no direct U.S. federal analogue to the GDPR yet exists.[11] Rather than wait for the federal government to act, several states have opted to follow the lead of the GDPR and enact their own versions of comprehensive data privacy laws.  Perhaps the most significant of these state-legislated omnibus privacy laws is the California Consumer Privacy Act (“CCPA”), signed into law on June 28, 2108, and slated to take effect on January 1, 2020.[12]  The CCPA is not identical to the GDPR, differing in a number of key respects.  However there are many similarities, in that the CCPA also has broadly defined definitions of personal information/data, and seeks to provide a right to notice of data collection, a right of access to and correction of collected data, a right to be forgotten, and a right to data portability.  But how do the CCPA’s requirements differ from the GDPR for companies engaged in the development and use of AI technologies?  While there are many issues to consider, below we examine several of the key differences of the CCPA and their impact on machine learning and other AI-based processing of collected data. A.       Inferences Drawn from Personal Information The GDPR defines personal data as “any information relating to an identified or identifiable natural person,” such as “a name, an identification number, location data, an online identifier or to one or more factors specific to the physical, physiological, genetic, mental, economic, cultural or social identify of that nature person.”[13]  Under the GDPR, personal data has implications in the AI space beyond just the data that is actually collected from an individual.  AI technology can be and often is used to generate additional information about a person from collected data, e.g., spending habits, facial features, risk of disease, or other inferences that can be made from the collected data.  Such inferences, or derivative data, may well constitute “personal data” under a broad view of the GDPR, although there is no specific mention of derivative data in the definition. By contrast, the CCPA goes farther and specifically includes “inferences drawn from any of the information identified in this subdivision to create a profile about a consumer reflecting the consumer’s preferences, characteristics, psychological trends, preferences, predispositions, behavior, attitudes, intelligence, abilities and aptitudes.”[14]  An “inference” is defined as “the derivation of information, data, assumptions, or conclusions from evidence, or another source of information or data.”[15] Arguably the primary purpose of many AI systems is to draw inferences from a user’s information, by mining data, looking for patterns, and generating analysis.  Although the CCPA does limit inferences to those drawn “to create a profile about a consumer,” the term “profile” is not defined in the CCPA.  However, the use of consumer information that is “deidentified” or “aggregated” is permitted by the CCPA.  Thus, one possible solution may be to take steps to “anonymize” any personal data used to derive any inferences.  As a result, when looking to CCPA compliance, companies may want to carefully consider the derivative/processed data that they are storing about a user, and consider additional steps that may be required for CCPA compliance. B.       Identifying Categories of Personal Information The CCPA also requires disclosures of the categories of personal information being collected, the categories of sources from which personal information is collected, the purpose for collecting and selling personal information, and the categories of third parties with whom the business shares personal information. [16]  Although these categories are likely known and definable for static data collection, it may be more difficult to specifically disclose the purpose and categories for certain information when dynamic machine learning algorithms are used.  This is particularly true when, as discussed above, inferences about a user are included as personal information.  In order to meet these disclosure requirements, companies may need to carefully consider how they will define all of the categories of personal information collected or the purposes of use of that information, particularly when machine learning algorithms are used to generate additional inferences from, or derivatives of, personal data. C.       Personal Data Includes Households The CCPA’s definition of “personal data” also includes information pertaining to non-individuals, such as “households” – a term that the CCPA does not further define.[17]  In the absence of an explicit definition, the term “household” would seem to target information collected about a home and its inhabits through smart home devices, such as thermostats, cameras, lights, TVs, and so on.  When looking to the types of personal data being collected, the CCPA may also encompass information about each of these smart home devices, such as name, location, usage, and special instructions (e.g., temperature controls, light timers, and motion sensing).  Furthermore, any inferences or derivative information generated by AI algorithms from the information collected from these smart home devices may also be covered as personal information.  Arguably, this could include information such as conversations with voice assistants or even information about when people are likely to be home determined via cameras or motion sensors.  Companies developing smart home, or other Internet of Things, devices thus should carefully consider whether the scope and use they make of any information collected from “households” falls under the CCPA requirements for disclosure or other restrictions. III.       Continuing Efforts to Regulate Autonomous Vehicles Much like the potential for a comprehensive U.S. data privacy law, and despite a flurry of legislative activity in Congress in 2017 and early 2018 towards such a national regulatory framework, autonomous vehicles continue to operate under a complex patchwork of state and local rules with limited federal oversight.  We previously provided an update (located here)[18] discussing the Safely Ensuring Lives Future Deployment and Research In Vehicle Evolution (SELF DRIVE) Act[19], which passed the U.S. House of Representatives by voice vote in September 2017 and its companion bill (the American Vision for Safer Transportation through Advancement of Revolutionary Technologies (AV START) Act).[20]  Both bills have since stalled in the Senate, and with them the anticipated implementation of a uniform regulatory framework for the development, testing and deployment of autonomous vehicles. As the two bills languish in Congress, ‘chaperoned’ autonomous vehicles have already begun coexisting on roads alongside human drivers.  The accelerating pace of policy proposals—and debate surrounding them—looks set to continue in late 2018 as virtually every major automaker is placing more autonomous vehicles on the road for testing and some manufacturers prepare to launch commercial services such as self-driving taxi ride-shares[21] into a national regulatory vacuum. A.       “Light-touch” Regulation The delineation of federal and state regulatory authority has emerged as a key issue because autonomous vehicles do not fit neatly into the existing regulatory structure.  One of the key aspects of the proposed federal legislation is that it empowers the National Highway Traffic Safety Administration (NHTSA) with the oversight of manufacturers of self-driving cars through enactment of future rules and regulations that will set the standards for safety and govern areas of privacy and cybersecurity relating to such vehicles.  The intention is to have a single body (the NHTSA) develop a consistent set of rules and regulations for manufacturers, rather than continuing to allow the states to adopt a web of potentially widely differing rules and regulations that may ultimately inhibit development and deployment of autonomous vehicles.  This approach was echoed by safety guidelines released by the Department of Transportation (DoT) for autonomous vehicles.  Through the guidelines (“a nonregulatory approach to automated vehicle technology safety”),[22] the DoT avoids any compliance requirement or enforcement mechanism, at least for the time being, as the scope of the guidance is expressly to support the industry as it develops best practices in the design, development, testing, and deployment of automated vehicle technologies. Under the proposed federal legislation, the states can still regulate autonomous vehicles, but the guidance encourages states not to pass laws that would “place unnecessary burdens on competition and innovation by limiting [autonomous vehicle] testing or deployment to motor vehicle manufacturers only.”[23]  The third iteration of the DoT’s federal guidance, published on October 4, 2018, builds upon—but does not replace—the existing guidance, and reiterates that the federal government is placing the onus for safety on companies developing the technologies rather than on government regulation. [24]  The guidelines, which now include buses, transit and trucks in addition to cars, remain voluntary. B.       Safety Much of the delay in enacting a regulatory framework is a result of policymakers’ struggle to balance the industry’s desire to speed both the development and deployment of autonomous vehicle technologies with the safety and security concerns of consumer advocates. The AV START bill requires that NHTSA must construct comprehensive safety regulations for AVs with a mandated, accelerated timeline for rulemaking, and the bill puts in place an interim regulatory framework that requires manufacturers to submit a Safety Evaluation Report addressing a range of key areas at least 90 days before testing, selling, or commercialization of an driverless cars.  But some lawmakers and consumer advocates remain skeptical in the wake of highly publicized setbacks in autonomous vehicle testing.[25]  Although the National Safety Transportation Board (NSTB) has authority to investigate auto accidents, there is still no federal regulatory framework governing liability for individuals and states.[26]  There are also ongoing concerns over cybersecurity risks[27], the use of forced arbitration clauses by autonomous vehicle manufacturers,[28] and miscellaneous engineering problems that revolve around the way in which autonomous vehicles interact with obstacles commonly faced by human drivers, such as emergency vehicles,[29] graffiti on road signs or even raindrops and tree shadows.[30] In August 2018, the Governors Highway Safety Association (GHSA) published a report outlining the key questions that manufacturers should urgently address.[31]  The report suggested that states seek to encourage “responsible” autonomous car testing and deployment while protecting public safety and that lawmakers “review all traffic laws.”  The report also notes that public debate often blurs the boundaries between the different levels of automation the NHTSA has defined (ranging from level 0 (no automation) to level 5 (fully self-driving without the need for human occupants)), remarking that “most AVs for the foreseeable future will be Levels 2 through 4.  Perhaps they should be called ‘occasionally self-driving.'”[32] C.       State Laws Currently, 21 states and the District of Columbia have passed laws regulating the deployment and testing of self-driving cars, and governors in 10 states have issued executive orders related to them.[33]  For example, California expanded its testing rules in April 2018 to allow for remote monitoring instead of a safety driver inside the vehicle.[34]  However, state laws differ on basic terminology, such as the definition of “vehicle operator.” Tennessee SB 151[35] points to the autonomous driving system (ADS) while Texas SB 2205[36] designates a “natural person” riding in the vehicle.  Meanwhile, Georgia SB 219[37] identifies the operator as the person who causes the ADS to engage, which might happen remotely in a vehicle fleet. These distinctions will affect how states license both human drivers and autonomous vehicles going forward.  Companies operating in this space accordingly need to stay abreast of legal developments in states in which they are developing or testing autonomous vehicles, while understanding that any new federal regulations may ultimately preempt those states’ authorities to determine, for example, crash protocols or how they handle their passengers’ data. D.       ‘Rest of the World’ While the U.S. was the first country to legislate for the testing of automated vehicles on public roads, the absence of a national regulatory framework risks impeding innovation and development.  In the meantime, other countries are vying for pole position among manufacturers looking to test vehicles on roads.[38]  KPMG’s 2018 Autonomous Vehicles Readiness Index ranks 20 countries’ preparedness for an autonomous vehicle future. The Netherlands took the top spot, outperforming the U.S. (3rd) and China (16th).[39]  Japan and Australia plan to have self-driving cars on public roads by 2020.[40]  The U.K. government has announced that it expects to see fully autonomous vehicles on U.K. roads by 2021, and is introducing legislation—the Automated and Electric Vehicles Act 2018—which installs an insurance framework addressing product liability issues arising out of accidents involving autonomous cars, including those wholly caused by an autonomous vehicle “when driving itself.”[41] E.       Looking Ahead While autonomous vehicles operating on public roads are likely to remain subject to both federal and state regulation, the federal government is facing increasing pressure to adopt a federal regulatory scheme for autonomous vehicles in 2018.[42]  Almost exactly one year after the House passed the SELF DRIVE Act, House Energy and Commerce Committee leaders called on the Senate to advance automated vehicle legislation, stating that “[a]fter a year of delays, forcing automakers and innovators to develop in a state-by-state patchwork of rules, the Senate must act to support this critical safety innovation and secure America’s place as a global leader in technology.”[43]  The continued absence of federal regulation renders the DoT’s informal guidance increasingly important.  The DoT has indicated that it will enact “flexible and technology-neutral” policies—rather than prescriptive performance-based standards—to encourage regulatory harmony and consistency as well as competition and innovation.[44]  Companies searching for more tangible guidance on safety standards at federal level may find it useful to review the recent guidance issued alongside the DoT’s announcement that it is developing (and seeking public input into) a pilot program for ‘highly or fully’ autonomous vehicles on U.S. roads.[45]  The safety standards being considered include technology disabling the vehicle if a sensor fails or barring vehicles from traveling above safe speeds, as well as a requirement that NHTSA be notified of any accident within 24 hours. [1] See https://www.whitehouse.gov/wp-content/uploads/2018/05/Summary-Report-of-White-House-AI-Summit.pdf; note also that the Trump Administration’s efforts in studying AI technologies follow, but appear largely separate from, several workshops on AI held by the Obama Administration in 2016, which resulted in two reports issued in late 2016 (see Preparing for the Future of Artificial Intelligence, and Artificial Intelligence, Automation, and the Economy). [2] Id. at Appendix A. [3] See https://www.mccain.senate.gov/public/index.cfm/2018/8/senate-passes-the-john-s-mccain-national-defense-authorization-act-for-fiscal-year-2019.  The full text of the NDAA is available at https://www.congress.gov/bill/115th-congress/house-bill/5515/text.  For additional information on CFIUS reform implemented by the NDAA, please see Gibson Dunn’s previous client update at https://www.gibsondunn.com/cfius-reform-our-analysis/. [4] See id.; see also https://www.treasury.gov/resource-center/international/Documents/FIRRMA-FAQs.pdf. [5] See https://foreignaffairs.house.gov/wp-content/uploads/2018/02/HR-5040-Section-by-Section.pdf.   [6] See, e.g. infra., Section III discussion of SELF DRIVE and AV START Acts, among others. [7] S.3127, 115th Congress (2018). [8] https://www.gibsondunn.com/new-california-security-of-connected-devices-law-and-ccpa-amendments/. [9] S.3502, 115th Congress (2018). [10] See also, infra., Section III for more discussion of specific regulatory efforts for autonomous vehicles. [11] However, as 2018 has already seen a fair number of hearings before Congress relating to digital data privacy issues, including appearances by key executives from many major tech companies, it seems likely that it may not be long before we see the introduction of a “GDPR-like” comprehensive data privacy bill.  Whether any resulting federal legislation would actually pre-empt state-enacted privacy laws to establish a unified federal framework is itself a hotly-contested issue, and remains to be seen. [12] AB 375 (2018); Cal. Civ. Code §1798.100, et seq. [13] Regulation (EU) 2016/679 (General Data Protection Regulation), Article 4 (1). [14] Cal. Civ. Code §1798.140(o)(1)(K). [15] Id.. at §1798.140(m). [16] Id. at §1798.110(c). [17] Id. at §1798.140(o)(1). [18] https://www.gibsondunn.com/accelerating-progress-toward-a-long-awaited-federal-regulatory-framework-for-autonomous-vehicles-in-the-united-states/. [19]   H.R. 3388, 115th Cong. (2017). [20]   U.S. Senate Committee on Commerce, Science and Transportation, Press Release, Oct. 24, 2017, available at https://www.commerce.senate.gov/public/index.cfm/pressreleases?ID=BA5E2D29-2BF3-4FC7-A79D-58B9E186412C. [21]   Sean O’Kane, Mercedes-Benz Self-Driving Taxi Pilot Coming to Silicon Valley in 2019, The Verge, Jul. 11, 2018, available at https://www.theverge.com/2018/7/11/17555274/mercedes-benz-self-driving-taxi-pilot-silicon-valley-2019. [22]   U.S. Dept. of Transp., Automated Driving Systems 2.0: A Vision for Safety 2.0, Sept. 2017, https://www.nhtsa.gov/sites/nhtsa.dot.gov/files/documents/13069a-ads2.0_090617_v9a_tag.pdf. [23]   Id., at para 2. [24]   U.S. DEPT. OF TRANSP., Preparing for the Future of Transportation: Automated Vehicles 3.0, Oct. 4, 2018, https://www.transportation.gov/sites/dot.gov/files/docs/policy-initiatives/automated-vehicles/320711/preparing-future-transportation-automated-vehicle-30.pdf. [25]   Sasha Lekach, Waymo’s Self-Driving Taxi Service Could Have Some Major Issues, Mashable, Aug. 28, 2018, available at https://mashable.com/2018/08/28/waymo-self-driving-taxi-problems/#dWzwp.UAEsqM. [26]   Robert L. Rabin, Uber Self-Driving Cars, Liability, and Regulation, Stanford Law School Blog, Mar. 20, 2018, available at https://law.stanford.edu/2018/03/20/uber-self-driving-cars-liability-regulation/. [27]   David Shephardson, U.S. Regulators Grappling with Self-Driving Vehicle Security, Reuters. Jul. 10, 2018, available at https://www.reuters.com/article/us-autos-selfdriving/us-regulators-grappling-with-self-driving-vehicle-security-idUSKBN1K02OD. [28]   Richard Blumenthal, Press Release, Ten Senators Seek Information from Autonomous Vehicle Manufacturers on Their Use of Forced Arbitration Clauses, Mar. 23, 2018, available at https://www.blumenthal.senate.gov/newsroom/press/release/ten-senators-seek-information-from-autonomous-vehicle-manufacturers-on-their-use-of-forced-arbitration-clauses. [29]   Kevin Krewell, How Will Autonomous Cars Respond to Emergency Vehicles, Forbes, Jul. 31, 2018, available at https://www.forbes.com/sites/tiriasresearch/2018/07/31/how-will-autonomous-cars-respond-to-emergency-vehicles/#3eed571627ef. [30]   Michael J. Coren, All The Things That Still Baffle Self-Driving Cars, Starting With Seagulls, Quartz, Sept. 23, 2018, available at https://qz.com/1397504/all-the-things-that-still-baffle-self-driving-cars-starting-with-seagulls/. [31]   ghsa, Preparing For Automated Vehicles: Traffic Safety Issues For States, Aug. 2018, available at https://www.ghsa.org/sites/default/files/2018-08/Final_AVs2018.pdf. [32]   Id., at 7. [33]   Brookings, The State of Self-Driving Car Laws Across the U.S., May 1, 2018, available at https://www.brookings.edu/blog/techtank/2018/05/01/the-state-of-self-driving-car-laws-across-the-u-s/. [34]   Aarian Marshall, Fully Self-Driving Cars Are Really Truly Coming to California, Wired, Feb. 26, 2018, available at, https://www.wired.com/story/california-self-driving-car-laws/; State of California, Department of Motor Vehicles, Autonomous Vehicles in California, available at https://www.dmv.ca.gov/portal/dmv/detail/vr/autonomous/bkgd. [35]   SB 151, available at http://www.capitol.tn.gov/Bills/110/Bill/SB0151.pdf. [36]   SB 2205, available at https://legiscan.com/TX/text/SB2205/2017. [37]   SB 219, available at http://www.legis.ga.gov/Legislation/en-US/display/20172018/SB/219. [38]   Tony Peng & Michael Sarazen, Global Survey of Autonomous Vehicle Regulations, Medium, Mar. 15, 2018, available at https://medium.com/syncedreview/global-survey-of-autonomous-vehicle-regulations-6b8608f205f9. [39]   KPMG, Autonomous Vehicles Readiness Index: Assessing Countries’ Openness and Preparedness for Autonomous Vehicles, 2018, (“The US has a highly innovative but largely disparate environment with little predictability regarding the uniform adoption of national standards for AVs. Therefore the prospect of  widespread driverless vehicles is unlikely in the near future. However, federal policy and regulatory guidance could certainly accelerate early adoption . . .”), p. 17, available at https://assets.kpmg.com/content/dam/kpmg/nl/pdf/2018/sector/automotive/autonomous-vehicles-readiness-index.pdf. [40]   Stanley White, Japan Looks to Launch Autonomous Car System in Tokyo by 2020, Automotive News, Jun. 4, 2018, available at http://www.autonews.com/article/20180604/MOBILITY/180609906/japan-self-driving-car; National Transport Commission Australia, Automated vehicles in Australia, available at https://www.ntc.gov.au/roads/technology/automated-vehicles-in-australia/. [41]   The Automated and Electric Vehicles Act 2018, available at http://www.legislation.gov.uk/ukpga/2018/18/contents/enacted; Lexology, Muddy Road Ahead Part II: Liability Legislation for Autonomous Vehicles in the United Kingdom, Sept. 21, 2018,  https://www.lexology.com/library/detail.aspx?g=89029292-ad7b-4c89-8ac9-eedec3d9113a; see further Anne Perkins, Government to Review Law Before Self-Driving Cars Arrive on UK Roads, The Guardian, Mar. 6, 2018, available at https://www.theguardian.com/technology/2018/mar/06/self-driving-cars-in-uk-riding-on-legal-review. [42]   Michaela Ross, Code & Conduit Podcast: Rep. Bob Latta Eyes Self-Driving Car Compromise This Year, Bloomberg Law, Jul. 26, 2018, available at https://www.bna.com/code-conduit-podcast-b73014481132/. [43]   Freight Waves, House Committee Urges Senate to Advance Self-Driving Vehicle Legislation, Sept. 10, 2018, available at https://www.freightwaves.com/news/house-committee-urges-senate-to-advance-self-driving-vehicle-legislation; House Energy and Commerce Committee, Press Release, Sept. 5, 2018, available at https://energycommerce.house.gov/news/press-release/media-advisory-walden-ec-leaders-to-call-on-senate-to-pass-self-driving-car-legislation/. [44]   See supra n. 24, U.S. DEPT. OF TRANSP., Preparing for the Future of Transportation: Automated Vehicles 3.0, Oct. 4, 2018, iv. [45]   David Shephardson, Self-driving cars may hit U.S. roads in pilot program, NHTSA says, Automotive News, Oct. 9, 2018, available at http://www.autonews.com/article/20181009/MOBILITY/181009630/self-driving-cars-may-hit-u.s.-roads-in-pilot-program-nhtsa-says. Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding these developments.  Please contact the Gibson Dunn lawyer with whom you usually work, or the authors: H. Mark Lyon – Palo Alto (+1 650-849-5307, mlyon@gibsondunn.com) Claudia M. Barrett – Washington, D.C. (+1 202-887-3642, cbarrett@gibsondunn.com) Frances Annika Smithson – Los Angeles (+1 213-229-7914, fsmithson@gibsondunn.com) Ryan K. Iwahashi – Palo Alto (+1 650-849-5367, riwahashi@gibsondunn.com) Please also feel free to contact any of the following: Automotive/Transportation: Theodore J. Boutrous, Jr. – Los Angeles (+1 213-229-7000, tboutrous@gibsondunn.com) Christopher Chorba – Los Angeles (+1 213-229-7396, cchorba@gibsondunn.com) Theane Evangelis – Los Angeles (+1 213-229-7726, tevangelis@gibsondunn.com) Privacy, Cybersecurity and Consumer Protection: Alexander H. Southwell – New York (+1 212-351-3981, asouthwell@gibsondunn.com) Public Policy: Michael D. Bopp – Washington, D.C. (+1 202-955-8256, mbopp@gibsondunn.com) Mylan L. Denerstein – New York (+1 212-351-3850, mdenerstein@gibsondunn.com) © 2018 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

October 5, 2018 |
What Employers Need to Know About California’s New #MeToo Laws

Click for PDF On September 30, 2018, Governor Edmund G. Brown signed several new workplace laws, and vetoed others, that arose out of the #MeToo movement.  We briefly review the newly signed legislation and also highlight bills that Governor Brown rejected.  Unless otherwise indicated, these new laws will take effect on January 1, 2019. New Requirements for Employers New Training Requirements Expanded Requirements for Harassment and Discrimination Training.  Most California employers are aware that, under existing California law, employers with 50 or more employees must provide at least two hours of prescribed training regarding sexual harassment within six months of an individual’s hiring or promotion to a supervisory position and every two years while an employee remains in a supervisory position.  SB 1343 expands this requirement in two critical ways: The training requirements now cover all employers with five or more employees, which includes temporary or seasonal employees, meaning that many smaller employers are now subject to California’s training requirements. All covered employers must now provide at least one hour of sexual harassment training to non-supervisory employees by January 1, 2020, and once every two years thereafter, which may greatly expand the scope of required training for employers with large line-level workforces. SB 1343 also requires the California Department of Fair Employment and Housing (DFEH) to make available online training courses that employers may use to meet these requirements.  However, employers may wish to work with their counsel and Human Resources departments to develop training that is specific to their business and industry, which is generally regarded as more effective than “one size fits all” trainings. Education and Training for Employees in Entertainment Industry.  AB 2338 requires, prior to the issuance of a permit to employ a minor in the entertainment industry, that the minor and the minor’s parents or legal guardians receive and complete sexual harassment training.  The law also requires that talent agencies ensure that minors have a valid work permit, and that agencies provide adult artists with accessible educational material “regarding sexual harassment prevention, retaliation, and reporting resources,” as well as nutrition and eating disorders. Anti-Harassment Legislation Restrictions on Non-Disclosure and Confidentiality Agreements and More Rigorous Sexual Harassment Standards.  SB 1300 amends California’s Fair Employment and Housing Act (FEHA) to prohibit an employer from requiring an employee to agree to a non-disparagement agreement or other document limiting the disclosure of information about unlawful workplace acts in exchange for a raise or bonus, or as a condition of employment or continued employment.  Employers are also prohibited from requiring an individual to “execute a statement that he or she does not possess any claim or injury against the employer” or to release “a right to file and pursue a civil action or complaint with, or otherwise notify, a state agency, other public prosecutor, law enforcement agency, or any court or other governmental entity.”  Under the law, any such agreement is contrary to public policy and unenforceable.  (Some of these activities, such as reporting to law enforcement, are already protected, of course.)  While negotiated settlement agreements of civil claims supported by valuable consideration are exempted from these prohibitions, employers will want to review their various employee agreement templates to ensure none contain these or other types of prohibited clauses. SB 1300 also codifies several legal standards that may make it more challenging for employers to prevail on harassment claims before trial.  For example, the law provides that a single incident of harassing conduct may create a triable issue of fact in a hostile work environment case; that it is irrelevant to a sexual harassment case that a particular occupation may have been characterized by more sexualized conduct in the past; and that “hostile working environment cases involve issues ‘not determinable on paper.'”  Employers can expect to see SB 1300 cited in any plaintiff’s opposition to summary judgment in a sexual harassment case, and they will need to give serious consideration as to whether and how to seek summary judgment in light of the new law. Limitations on Confidentiality in Settlement Agreements.  SB 820 prohibits provisions in settlement agreements entered into on or after January 1, 2019 that prevent the disclosure of facts related to sexual assault, harassment, and discrimination claims that have been “filed in a civil action or a complaint filed in an administrative action.”  Note, however, that SB 820 does not prohibit provisions precluding the disclosure of the settlement payment amount, and the law carves out an exception for provisions protecting the identity of the claimant where requested by the claimant. Expanded Sexual Harassment Liability to Cover Certain Business Relationships.  Businesses in the venture capital, entertainment, and similar industries will want to be alert to SB 224, which modifies California Civil Code section 51.9 and would include within the elements in a cause of action for sexual harassment when the plaintiff proves, among other things, that the “defendant holds himself or herself as being able to help the plaintiff establish a business, service, or professional relationship with the defendant or a third party.”  The law identifies additional examples of potential defendants under the statute, such as investors, elected officials, lobbyists, directors, and producers. Limitations on Barring Testimony Related to Criminal Conduct or Sexual Harassment.  AB 3109 prohibits waivers of a party’s right to testify in an administrative, legislative, or judicial proceeding concerning alleged criminal conduct or sexual harassment by the other party to a contract, when the party has been required or requested to attend the proceeding pursuant to a court order, subpoena, or written request from an administrative agency or the legislature. Mandating Gender Diversity on Boards of Directors for Publicly Held Corporations SB 826 requires a minimum number of female directors on the boards of publicly traded corporations with principal executive offices in California.  The location of a corporation’s principal executive office will be determined by the Annual Report on Form 10-K. Under SB 826, a corporation covered by the law must have at least one female member on its board of directors by December 31, 2019, and additional female members by 2021 depending on the size of the board.  If the corporation has a board of directors with: four members or less, no additional female directors are required; five members, the board must have at least two female directors by December 31, 2021; and six or more members, at least three female directors are required to be in place by December 31, 2021. The California Secretary of State can impose fines of $100,000 for a first violation and $300,000 for subsequent violations. Potential challengers of this law argue that it suffers from numerous legal deficiencies, including that it violates the Commerce Clause and the Equal Protection Clause of the United States Constitution.  Indeed, Governor Brown himself acknowledged in his signing statement that this new law has “potential flaws that indeed may provide fatal to its ultimate implementation” and will likely be subject to challenge.  For more information on SB 826, please consult our Securities Regulation and Corporate Governance group’s analysis, available here. Bills Vetoed by Governor Brown Governor Brown also vetoed several bills relating to sexual harassment that could have significantly impacted employers in California, including: The closely watched AB 3080, which sought to forbid mandatory arbitration agreements in the workplace. AB 1867, which sought to require employers with fifty or more employees to “maintain records of employee complaints alleging sexual harassment” for a period of five years after the last day of employment of either “the complainant or any alleged harasser named in the complaint, whichever is later.” AB 1870, which sought to extend the deadline in which a complainant may file an administrative charge with the DFEH alleging employment discrimination from one year to three years. AB 3081, which sought to require a client employer and a labor contractor to share all “civil legal responsibility and civil liability for harassment” for all workers supplied by that labor contractor and prohibit an employer from shifting its duties or liabilities to a labor contractor. Gibson Dunn lawyers are available to assist in addressing any questions you may have about these developments. We have been engaged by numerous clients recently to conduct investigations of #MeToo complaints; to proactively review sexual harassment policies, practices and procedures for the protection of employees and the promotion of a safe, respectful and professional workplace; to conduct training for executives, managers and employees; and to handle related counseling and litigation. To learn more about these issues, please contact the Gibson Dunn lawyer with whom you usually work or the following Labor and Employment or Securities Regulation and Corporate Governance practice group leaders and members: Labor and Employment Group: Catherine A. Conway – Co-Chair, Los Angeles (+1 213-229-7822, cconway@gibsondunn.com) Jason C. Schwartz – Co-Chair, Washington, D.C. (+1 202-955-8242, jschwartz@gibsondunn.com) Rachel S. Brass – San Francisco (+1 415-393-8293, rbrass@gibsondunn.com) Jesse A. Cripps – Los Angeles (+1 213-229-7792, jcripps@gibsondunn.com) Theane Evangelis – Los Angeles (+1 213-229-7726, tevangelis@gibsondunn.com) Michele L. Maryott – Orange County (+1 949-451-3945,mmaryott@gibsondunn.com) Katherine V.A. Smith – Los Angeles (+1 213-229-7107, ksmith@gibsondunn.com) Securities Regulation and Corporate Governance Group: Elizabeth Ising – Co-Chair, Washington, D.C. (+1 202-955-8287, eising@gibsondunn.com) Lori Zyskowski – Co-Chair, New York (+1 212-351-2309, lzyskowski@gibsondunn.com) Stewart L. McDowell – San Francisco (+1 415-393-8322, smcdowell@gibsondunn.com) © 2018 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

October 3, 2018 |
2018 Mid-Year Activism Update

Click for PDF This Client Alert provides an update on shareholder activism activity involving NYSE- and NASDAQ-listed companies with equity market capitalizations above $1 billion during the first half of 2018.  After a modest decline in activist activity in the second half of 2017, activism resumed a torrid pace during the first half of 2018.  Compared to the same period in 2017, which had previously been the most active half-year period covered by any edition of this report, this mid-year edition of Gibson Dunn’s Activism Update reflects a further increase in public activist actions (62 vs. 59) and companies targeted by such actions (54 vs. 50). In this edition of the Activism Update, our survey covers 62 total public activist actions, involving 41 different activist investors targeting 54 different companies.  Eight of those companies faced activist campaigns from two different investors, and five of those situations involved at least some degree of coordination between the activists involved.  Nine activist investors were responsible for two or more campaigns between January 1, 2018 and June 30, 2018, representing 30, or nearly half, of the 62 campaigns covered by this report. By the Numbers – 2018 Full Year Public Activism Trends *All data is derived from the data compiled from the campaigns studied for the 2018 M Activism Update. Additional statistical analyses may be found in the complete Activism Update linked below.  While changes in business strategy were the top goal of activist campaigns covered by Gibson Dunn’s Activism Update for the second half of 2017, changes to board composition have returned to prominence in the first half of 2018 (75.8% of campaigns), coinciding with a dramatic uptick in publicly filed settlement agreements during the same period.  Activists pursued governance initiatives, sought to influence business strategy, and took positions on M&A-related issues (including pushing for spin-offs and advocating both for and against sales or acquisitions) at nearly equal rates, representing 35.5%, 33.9%, and 32.3% of campaigns, respectively.  Demands for management changes (21.0% of campaigns), attempts to take control of companies (9.5% of campaigns), and requests for capital returns (6.1% of campaigns) remained relatively less common goals of activist campaigns over the first half of 2018.  The frequency of activists filing proxy materials remained relatively consistent with periods covered by recent editions of this report, with investors filing proxy materials in just over one in five campaigns.  While market capitalizations of target companies ranged from this survey’s $1 billion minimum threshold to $100 billion, activists’ focus remained largely on small-cap companies with market capitalizations below $5 billion, which represented 64.8% of the 54 target companies captured by our survey. The most significant development noted in our previous report, covering the second half of 2017, was the decrease in publicly filed settlement agreements between activist investors and target companies, which we attributed partially to the concurrent decline in campaigns involving activists seeking board seats.  This trend has been reversed.  As campaigns seeking board representation have returned to prominence, the number of publicly filed settlement agreements in the first half of 2018 has seen a fivefold increase from the previous half-year period, from four such agreements in the second half of 2017 to 21 in the first half of 2018.  Trends in the key terms of settlement agreements remain relatively steady.  Voting agreements, standstills, and ownership thresholds remain nearly ubiquitous.  Non-disparagement provisions dropped off slightly in the first half of 2018, while committee appointments for new directors and other strategic initiatives (e.g., replacement of management, spin-offs, governance changes) remained near their historical averages in prior editions of this report.  The increased frequency of expense reimbursement noted in our last report has also continued into 2018, with 62% of publicly filed settlement agreements containing such a provision compared to a historical average of just 36% from 2014 through the first half of 2017.  Further details and data on publicly filed settlement agreements may be found in the latter half of this report. We hope you find Gibson Dunn’s 2018 Mid-Year Activism Update informative. If you have any questions, please do not hesitate to reach out to a member of your Gibson Dunn team. Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding the issues discussed in this publication.  For further information, please contact the Gibson Dunn lawyer with whom you usually work, or any of the following authors in the firm’s New York office: Barbara L. Becker (+1 212.351.4062, bbecker@gibsondunn.com) Richard J. Birns (+1 212.351.4032, rbirns@gibsondunn.com) Dennis J. Friedman (+1 212.351.3900, dfriedman@gibsondunn.com) Eduardo Gallardo (+1 212.351.3847, egallardo@gibsondunn.com) William Koch (+1 212.351.4089, wkoch@gibsondunn.com) Please also feel free to contact any of the following practice group leaders and members: Mergers and Acquisitions Group: Jeffrey A. Chapman – Dallas (+1 214.698.3120, jchapman@gibsondunn.com) Stephen I. Glover – Washington, D.C. (+1 202.955.8593, siglover@gibsondunn.com) Jonathan K. Layne – Los Angeles (+1 310.552.8641, jlayne@gibsondunn.com) Securities Regulation and Corporate Governance Group: Brian J. Lane – Washington, D.C. (+1 202.887.3646, blane@gibsondunn.com) Ronald O. Mueller – Washington, D.C. (+1 202.955.8671, rmueller@gibsondunn.com) James J. Moloney – Orange County, CA (+1 949.451.4343, jmoloney@gibsondunn.com) Elizabeth Ising – Washington, D.C. (+1 202.955.8287, eising@gibsondunn.com) Lori Zyskowski – New York (+1 212.351.2309, lzyskowski@gibsondunn.com) © 2018 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

October 2, 2018 |
M&A Report – Fresenius Marks a Watershed Development in the Analysis of “Material Adverse Effect” Clauses

Click for PDF On October 1, 2018, in Akorn, Inc. v. Fresenius Kabi AG,[1]  the Delaware Court of Chancery determined conclusively for the first time that a buyer had validly terminated a merger agreement due to the occurrence of a “material adverse effect” (MAE). Though the decision represents a seminal development in M&A litigation generally, Vice Chancellor Laster grounded his decision in a framework that comports largely with the ordinary practice of practitioners. In addition, the Court went to extraordinary lengths to explicate the history between the parties before concluding that the buyer had validly terminated the merger agreement, and so sets the goalposts for a similar determination in the future to require a correspondingly egregious set of facts. As such, the ripple effects of Fresenius in future M&A negotiations may not be as acute as suggested in the media.[2] Factual Overview On April 24, 2017, Fresenius Kabi AG, a pharmaceutical company headquartered in Germany, agreed to acquire Akorn, Inc., a specialty generic pharmaceutical manufacturer based in Illinois. In the merger agreement, Akorn provided typical representations and warranties about its business, including its compliance with applicable regulatory requirements. In addition, Fresenius’s obligation to close was conditioned on Akorn’s representations being true and correct both at signing and at closing, except where the failure to be true and correct would not reasonably be expected to have an MAE. In concluding that an MAE had occurred, the Court focused on several factual patterns: Long-Term Business Downturn. Shortly after Akorn’s stockholders approved the merger (three months after the execution of the merger agreement), Akorn announced year-over-year declines in quarterly revenues, operating income and earnings per share of 29%, 84% and 96%, respectively. Akorn attributed the declines to the unexpected entrance of new competitors, the loss of a key customer contract and the attrition of its market share in certain products. Akorn revised its forecast downward for the following quarter, but fell short of that goal as well and announced year-over-year declines in quarterly revenues, operating income and earnings per share of 29%, 89% and 105%, respectively. Akorn ascribed the results to unanticipated supply interruptions, added competition and unanticipated price erosion; it also adjusted downward its long-term forecast to reflect dampened expectations for the commercialization of its pipeline products. The following quarter, Akorn reported year-over-year declines in quarterly revenues, operating income and earnings per share of 34%, 292% and 300%, respectively. Ultimately, over the course of the year following the signing of the merger agreement, Akorn’s EBITDA declined by 86%. Whistleblower Letters. In late 2017 and early 2018, Fresenius received anonymous letters from whistleblowers alleging flaws in Akorn’s product development and quality control processes. In response, relying upon a covenant in the merger agreement affording the buyer reasonable access to the seller’s business between signing and closing, Fresenius conducted a meticulous investigation of the Akorn business using experienced outside legal and technical advisors. The investigation revealed grievous flaws in Akorn’s quality control function, including falsification of laboratory data submitted to the FDA, that cast doubt on the accuracy of Akorn’s compliance with laws representations. Akorn, on the other hand, determined not to conduct its own similarly wide-ranging investigation (in contravention of standard practice for an FDA-regulated company) for fear of uncovering facts that could jeopardize the deal. During a subsequent meeting with the FDA, Akorn omitted numerous deficiencies identified in the company’s quality control group and presented a “one-sided, overly sunny depiction.” Operational Changes. Akorn did not operate its business in the ordinary course after signing (despite a covenant requiring that it do so) and fundamentally changed its quality control and information technology (IT) functions without the consent of Fresenius. Akorn management replaced regular internal audits with “verification” audits that only addressed prior audit findings rather than identifying new problems. Management froze investments in IT projects, which reduced oversight over data integrity issues, and halted efforts to investigate and remediate quality control issues and data integrity violations out of concern that such investigations and remediation would upend the transaction. Following signing, NSF International, an independent, accredited standards development and certification group focused on health and safety issues, also identified numerous deficiencies in Akorn’s manufacturing facilities. Conclusions and Key Takeaways The Court determined, among others, that the sudden and sustained drop in Akorn’s business performance constituted a “general MAE” (that is, the company itself had suffered an MAE), Akorn’s representations with respect to regulatory compliance were not true and correct, and the deviation between the as-represented condition and its actual condition would reasonably be expected to result in an MAE. In addition, the Court found that the operational changes implemented by Akorn breached its covenant to operate in the ordinary course of business. Several aspects of the Court’s analysis have implications for deal professionals: Highly Egregious Facts. Although the conclusion that an MAE occurred is judicially unprecedented in Delaware, it is not surprising given the facts. The Court determined that Akorn had undergone sustained and substantial declines in financial performance, credited testimony suggesting widespread regulatory noncompliance and malfeasance in the Akorn organization and suggested that decisions made by Akorn regarding health and safety were re-prioritized in light of the transaction (and in breach of a highly negotiated interim operating covenant). In In re: IBP, Inc. Shareholders Litigation, then-Vice Chancellor Strine described himself as “confessedly torn” over a case that involved a 64% year-over-year drop-off in quarterly earnings amid allegations of improper accounting practices, but determined that no MAE had occurred because the decline in earnings was temporary. In Hexion Specialty Chemicals, Inc. v. Huntsman Corp., Vice Chancellor Lamb emphasized that it was “not a coincidence” that “Delaware courts have never found a material adverse effect to have occurred in the context of a merger agreement” and concluded the same, given that the anticipated decline in the target’s EBITDA would only be 7%. No such hesitation can be found in the Fresenius opinion.[3] MAE as Risk Allocation Tool. The Court framed MAE clauses as a form of risk allocation that places “industry risk” on the buyer and “company-specific” risk on the seller. Explained in a more nuanced manner, the Court categorized “business risk,” which arises from the “ordinary operations of the party’s business” and which includes those risks over which “the party itself usually has significant control”, as being retained by the seller. By contrast, the Court observed that the buyer ordinarily assumes three others types of risk—namely, (i) systematic risks, which are “beyond the control of all parties,” (ii) indicator risks, which are markers of a potential MAE, such as a drop in stock price or a credit rating downgrade, but are not underlying causes of any MAE themselves, and (iii) agreement risks, which include endogenous risks relating to the cost of closing a deal, such as employee flight. This framework comports with the foundation upon which MAE clauses are ordinarily negotiated and underscores the importance that sellers negotiate for industry-specific carve-outs from MAE clauses, such as addressing adverse decisions by governmental agencies in heavily regulated industries. High Bar to Establishing an MAE. The Court emphasized the heavy burden faced by a buyer in establishing an MAE. Relying upon the opinions that emerged from the economic downturns in 2001 and 2008,[4]  the Court reaffirmed that “short-term hiccups in earnings” do not suffice; rather, the adverse change must be “consequential to the company’s long-term earnings power over a commercially reasonable period, which one would expect to be measured in years rather than months.” The Court underscored several relevant facts in this case, including (i) the magnitude and length of the downturn, (ii) the suddenness with which the EBITDA decline manifested (following five consecutive years of growth) and (iii) the presence of factors suggesting “durational significance,” including the entrance of new and unforeseen competitors and the permanent loss of key customers.[5] Evaluation of Targets on a Standalone Basis. Akorn advanced the novel argument that an MAE could not have occurred because the purchaser would have generated synergies through the combination and would have generated profits from the merger. The Court rejected this argument categorically, finding that the MAE clause was focused solely on the results of operations and financial condition of the target and its subsidiaries, taken as a whole (rather than the surviving corporation or the combined company), and carved out any effects arising from the “negotiation, execution, announcement or performance” of the merger agreement or the merger itself, including “the generation of synergies.” Given the Court’s general aversion to considering synergies as relevant to determining an MAE, buyers should consider negotiating to include express references to synergies in defining the concept of an MAE in their merger agreements. Disproportionate Effect. Fresenius offers a useful gloss on the importance to buyers of including “disproportionate effects” qualifications in MAE carve-outs regarding industry-wide events. Akorn argued that it faced “industry headwinds” that caused its decline in performance, such as heightened competition and pricing pressure as well as regulatory actions that increased costs. However, the Court rejected this view because many of the causes of Akorn’s poor performance were actually specific to Akorn, such as new market entrants in Akorn’s top three products and Akorn’s loss of a specific key contract. As such, these “industry effects” disproportionately affected and were allocated from a risk-shifting perspective to Akorn. To substantiate this conclusion, the Court relied upon evidence that Akorn’s EBITDA decline vastly exceeded its peers. The Bring-Down Standard. A buyer claiming that a representation given by the target at closing fails to satisfy the MAE standard must demonstrate such failure qualitatively and quantitatively. The Court focused on a number of qualitative harms wrought by the events giving rise to Akorn’s failure to bring down its compliance with laws representation at closing, including reputational harm, loss of trust with principal regulators and public questioning of the safety and efficacy of Akorn’s products. With respect to quantitative measures of harm, Fresenius and Akorn presented widely ranging estimates of the cost of remedying the underlying quality control challenges at Akorn. Using the midpoint of those estimates, the Court estimated the financial impact to be approximately 21% of Akorn’s market capitalization. However, despite citing several proxies for financial performance suggesting that this magnitude constituted an MAE, the Court clearly weighted its analysis towards qualitative factors, noting that “no one should fixate on a particular percentage as establishing a bright-line test” and that “no one should think that a General MAE is always evaluated using profitability metrics and an MAE tied to a representation is always tied to the entity’s valuation.” Indeed, the Court observed that these proxies “do not foreclose the possibility that a buyer could show that percentage changes of a lesser magnitude constituted an MAE. Nor does it exclude the possibility that a buyer might fail to prove that percentage changes of a greater magnitude constituted an MAE.” Fresenius offers a useful framework for understanding how courts analyze MAE clauses. While this understanding largely comports with the approach taken by deal professionals, the case nevertheless offers a reminder that an MAE, while still quite unlikely, can occur. Deal professionals would be well-advised to be thoughtful about how the concept should be defined and used in an agreement.    [1]   Akorn, Inc. v. Fresenius Kabi AG, C.A. No. 2018-0300-JTL (Del. Ch. Oct. 1, 2018).    [2]   See, e.g., Jef Feeley, Chris Dolmetsch & Joshua Fineman, Akorn Plunges After Judge Backs Fresenius Exit from Deal, Bloomberg (Oct 1, 2018) (“‘The ruling is a watershed moment in Delaware law, and will be a seminal case for those seeking to get out of M&A agreements,’ Holly Froum, an analyst with Bloomberg Intelligence, said in an emailed statement.”); Tom Hals, Delaware Judge Says Fresenius Can Walk Away from $4.8 Billion Akorn Deal, Reuters (Oct. 1, 2018) (“‘This is a landmark case,’ said Larry Hamermesh, a professor at Delaware Law School in Wilmington, Delaware.”).    [3]   The egregiousness of the facts in this case is further underscored by the fact that the Court determined that the buyer had breached its own covenant to use its reasonable best efforts to secure antitrust clearance, but that this breach was “temporary” and “not material.”    [4]   See, e.g., Hexion Specialty Chems. Inc. v. Huntsman Corp., 965 A.2d 715 (Del. Ch. 2008); In re: IBP, Inc. S’holders Litig., 789 A.2d 14 (Del. Ch. 2001).    [5]   This view appears to comport with the analysis highlighted by the Court from In re: IBP, Inc. Shareholders Litigation, in which the court determined that an MAE had not transpired in part because the target’s “problems were due in large measure to a severe winter, which adversely affected livestock supplies and vitality.” In re: IBP, 789 A.2d at 22. In this case, the decline of Akorn was not the product of systemic risks or cyclical declines, but rather a company-specific effect. The following Gibson Dunn lawyers assisted in preparing this client update:  Barbara Becker, Jeffrey Chapman, Stephen Glover, Mark Director, Andrew Herman, Saee Muzumdar, Adam Offenhartz, and Daniel Alterbaum. Gibson Dunn’s lawyers are available to assist with any questions you may have regarding these issues.  For further information, please contact the Gibson Dunn lawyer with whom you usually work, the authors, or any of the following leaders and members of the firm’s Mergers and Acquisitions practice group: Mergers and Acquisitions Group / Corporate Transactions: Barbara L. Becker – Co-Chair, New York (+1 212-351-4062, bbecker@gibsondunn.com) Jeffrey A. Chapman – Co-Chair, Dallas (+1 214-698-3120, jchapman@gibsondunn.com) Stephen I. Glover – Co-Chair, Washington, D.C. (+1 202-955-8593, siglover@gibsondunn.com) Dennis J. Friedman – New York (+1 212-351-3900, dfriedman@gibsondunn.com) Jonathan K. Layne – Los Angeles (+1 310-552-8641, jlayne@gibsondunn.com) Mark D. Director – Washington, D.C./New York (+1 202-955-8508/+1 212-351-5308, mdirector@gibsondunn.com) Andrew M. Herman – Washington, D.C./New York (+1 202-955-8227/+1 212-351-5389, aherman@gibsondunn.com) Eduardo Gallardo – New York (+1 212-351-3847, egallardo@gibsondunn.com) Saee Muzumdar – New York (+1 212-351-3966, smuzumdar@gibsondunn.com) Mergers and Acquisitions Group / Litigation: Meryl L. Young – Orange County (+1 949-451-4229, myoung@gibsondunn.com) Brian M. Lutz – San Francisco (+1 415-393-8379, blutz@gibsondunn.com) Aric H. Wu – New York (+1 212-351-3820, awu@gibsondunn.com) Paul J. Collins – Palo Alto (+1 650-849-5309, pcollins@gibsondunn.com) Michael M. Farhang – Los Angeles (+1 213-229-7005, mfarhang@gibsondunn.com) Joshua S. Lipshutz – Washington, D.C. (+1 202-955-8217, jlipshutz@gibsondunn.com) Adam H. Offenhartz – New York (+1 212-351-3808, aoffenhartz@gibsondunn.com) © 2018 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.