Yesterday, November 4, 2021, the Occupational Safety and Health Administration (“OSHA”) released its long-awaited emergency temporary standard (“ETS”) requiring most American workers to be vaccinated or undergo weekly COVID-19 testing. Importantly, the ETS states that it preempts state and local requirements that might stand in the way of employee vaccination (or that regulate testing protocols), even if it is possible for employers to comply with both those state requirements and the ETS.

The ETS applies to employers with more than 100 employees except in workplaces covered by the Safer Federal Workforce Task Force COVID-19 Workplace Safety: Guidance for Federal Contractors and Subcontractors (the “Task Force Guidance”), which implements Executive Order 14042 for federal contractors. Workplaces covered by that Guidance are not covered by the ETS.

As expected, under the ETS employers with 100 or more employees must require employees to either be vaccinated or present a negative COVID-19 test weekly and wear a face covering when indoors. The ETS also requires employers to pay employees for time spent getting vaccinated and recovering from side effects.

By December 6, employers must comply with all requirements other than testing. This includes establishing a vaccination policy, determining employee vaccination status, providing the requisite paid time off, and ensuring that unvaccinated employees are masked.

Beginning on January 4, 2022, unvaccinated employees must undergo weekly testing. Any employee who has received all doses of the vaccine by January 4 does not have to be tested. The Task Force Guidance for Executive Order 14042 will be revised to postpone the current December 8 vaccination deadline and to require, like the ETS, that employees receive all vaccine doses by January 4.

In issuing the ETS, OSHA has also sought notice and comment, so the ETS may be converted to a “permanent” OSHA standard. Under the OSH Act, ETSs are to be in place for only six months. Comments are due December 6, 2021.

Some states and private employers have already announced that they have or will file litigation regarding the ETS, which could potentially result in a stay or in the ETS being invalidated. Litigation that is already pending could have the same impact on Executive Order 14042. Events in court likely will move quickly in the coming weeks.

OSHA has also published FAQs,[1] a summary,[2] and fact sheet.[3] This alert provides an overview of the ETS contents and timing and previews some of its implications for employers.

Who Does (and Doesn’t) the OSHA ETS Cover?

The ETS applies to “all employers with a total of 100 or more employees at any time” the ETS is in effect.

The ETS does not apply to:

• Federal contractor workplaces covered under the Task Force Guidance, which we previously discussed here;
• Settings where any employee provides healthcare services or healthcare support services subject to the requirements of the Healthcare ETS, issued in June; and
• Employees of covered employers:
  • Who do not report to a workplace where other individuals such as coworkers or customers are present;
  • While working from home; or
  • Who work exclusively outdoors.

Can an Employer Require Testing in Lieu of Vaccination?

Yes. Under the OSHA ETS, an employer must either: (1) require that all employees are vaccinated; or (2) require unvaccinated employees to be regularly tested and wear masks in the workplace.

• An employee might be exempted from a vaccination requirement if the employee is entitled to reasonable religious or disability accommodations under federal civil rights laws, vaccination is medically contraindicated, or a medical necessity requires delay.
• An employer must ensure that each unvaccinated employee regularly submits a negative COVID-19 test result. Testing frequency for unvaccinated employees depends on whether the employee regularly reports to a workplace or was recently diagnosed with COVID-19:
  • If an employee regularly reports to a workplace, he must present a COVID-19 test result at least once every 7 days.
  • If an employee usually does not report to a workplace, e.g., he regularly works from home, he must test at least 7 days before returning to the workplace.
  • If an employee is diagnosed with COVID-19, by a health care professional or by a positive COVID-19 test result, then the employer must not require that employee to undergo testing for 90 days following the date of the positive test or diagnosis.

Must an Employer Pay for Employees’ Time to Get Vaccinated?

The ETS requires that employers compensate employees for the time it takes to get vaccinated and to recover from vaccination side effects. This includes:

• Up to four hours paid time, including travel time, at the employee’s regular rate of pay for each vaccination dose; and
• Paid sick leave for a “reasonable” amount of time to recover from side effects.
  • Employers may require employees to use accrued paid sick leave benefits for recovery from vaccination, but may not require employees to use existing leave entitlements for the time to get vaccinated.
  • But if an employee does not have accrued paid sick leave needed to recover from vaccine side effects, an employer may not require the employee to accrue negative paid sick leave or borrow against future paid sick leave.

Must an Employer Pay for Testing Costs?

The ETS does not require employers to pay for any costs associated with testing; however, other laws, regulations, or collective bargaining agreements may require an employer to pay for testing:

• California’s Department of Industrial Relations has stated that employers are responsible for the costs of employer-mandated COVID-19 testing under the state’s reimbursable business expense law.
• Some other states have business expense reimbursement laws or prohibitions on requiring employees to pay for medical testing in certain circumstances. These types of laws might be interpreted to place the burden on employers to pay for mandated COVID-19 tests.

To What Extent Does the ETS Preempt State Laws?

The ETS states that it preempts all state “workplace requirements relating to the occupational safety and health issues of vaccination, wearing face coverings, and testing for COVID-19, except under the authority of a Federally-approved State Plan.” This includes all “inconsistent state and local requirements relating to these issues . . . regardless of the number of employees.” In the preamble to the ETS, OSHA was clear that it intends for the ETS to preempt state or local requirements that stand in the way of vaccination, testing, or masking, even if it is possible to comply with both the ETS and those state or local requirements. The sweeping language also may be interpreted to preempt state and local anti-discrimination laws that are more accommodating than the federal standard.

The ETS does not purport to preempt more protective generally applicable state and local requirements that apply to the public at large. Such measures might include generally applicable state laws such as vaccine passports and mask mandates or more stringent requirements imposed by OSHA-approved state plans.

Are Masks Required for Unvaccinated Employees?

Under the ETS, employers must ensure that any employee who is not fully vaccinated wear a face covering when indoors or when occupying a vehicle with another person for work purposes.

• The ETS includes an exception to the face covering requirement when an employee is alone in a closed room; for a limited time while eating or drinking; for a limited time for identification purposes; when an employee is wearing a respirator or facemask (such as a mask for medical procedures); or where the employer can show that the use of face coverings is not feasible or creates a greater hazard.

The ETS itself “does not require the employer to pay for any costs associated with face coverings.” But, as with other COVID-related costs, other laws or employment agreements may require that employers pay for or provide face coverings.

Notably, the ETS does not require fully vaccinated employees to wear face coverings indoors, even in areas of substantial or high transmission. But other laws or regulations may.

What Recordkeeping Requirements Does the ETS Impose?

The ETS requires employers to maintain a record and roster of each employee’s vaccination status and preserve these records and rosters while the ETS remains in effect. Critically, the ETS provides an exemption from this requirement for employers that previously ascertained (before the ETS was published) and retained records of employee vaccination status through another form of proof (including self-attestation). The ETS also requires employers to make available, for examination and copying by an employee or anyone with written authorization from the employee, the employee’s COVID-19 vaccine documentation and any COVID-19 test results for the employee. Additionally, employers must make available to an employee (or their representative) the aggregate number of fully vaccinated employees and total number of employees at the workplace.

What Else Does the ETS Require?

Employers must require employees to “promptly notify the employer” of a positive test result, remove any employee who receives a positive test from the workplace until the ETS return-to-work criteria are met, and report work-related COVID-19 fatalities and in-patient hospitalizations. The CDC document, “Key Things to Know About COVID-19 Vaccines,” must be provided to all employees, along with the employer’s policies established to comply with the ETS, OSHA’s anti‑discrimination and anti‑retaliation requirements, and information about OSHA’s penalties for supplying false statements or documentation.

What Are the Implications for Federal Contractor Employers?

As noted above, the ETS does not apply to workplaces covered by the Task Force Guidance for federal contractors. But to the extent that a federal contractor has workplaces that are not covered by the Task Force Guidance, it will need to ensure compliance with the ETS for those sites.

The Administration announced that the Task Force Guidance will be revised to mirror the ETS by requiring that covered employees have received all shots by January 4, 2022. That will mean that federal contractor employees, like employees covered by the ETS, would not need to meet the Task Force definition of “fully vaccinated” until January 18, 2022.

How Does the ETS Interact with Accommodation Requirements?

The ETS acknowledges that federal law requires reasonable accommodations for employees who cannot be vaccinated because of a religious belief or medical condition. Employers that elect to comply with the ETS by allowing employees to decide whether to get vaccinated or be tested weekly may not receive many accommodation requests because employees who cannot be vaccinated for medical or religious reasons can choose the weekly testing option.

By contrast, employers that elect to comply with the ETS by adopting a vaccination mandate (rather than opting for testing in lieu) should anticipate and prepare for accommodation requests from their workforces. OSHA predicts that 5% of employees will request accommodations from vaccine requirements, but the actual number may be significantly higher for certain segments of the workforce.

Employers that mandate vaccination should have robust protocols for reviewing and resolving accommodation requests, and should anticipate that such requests will begin immediately upon announcement of their vaccine mandates. For some employers, being prepared to handle accommodation requests will necessitate additional HR personnel training on compliance with federal law in the context of vaccines.

Employers should be aware that the ETS masking and testing requirements for unvaccinated employees will apply to employees who qualify for accommodations. Also of note, the ETS “encourages employers to consider the most protective accommodations such as telework, which would prevent the employee from being exposed at work or from transmitting the virus at work.” Particularly where remote work is not a viable accommodation, compliance with the masking and testing requirements may inform whether an employer can provide accommodations without incurring “undue hardship.”

Additional information about compliance with federal law in the context of employer-mandated vaccines can be found in our client alerts on these topics.

What Impact Could Legal Challenges Have?

Some court challenges to the ETS already have been filed, and more are likely. The challenges are being filed directly in federal courts of appeals, and the challengers are likely to soon seek a stay of the ETS’s requirements pending a decision on the merits.  Cases filed in different courts will be consolidated and assigned to a single court by lottery.

The litigation bears watching, since ETSs historically do not have a good track record on judicial review: Of the six challenged in court, only two have been upheld even in part. In the cases now being filed, challengers are likely to argue that OSHA has not met the standard to issue the ETS as an emergency rulemaking without notice and comment. They also are likely to challenge OSHA’s authority to promulgate a vaccine-or-test mandate at all.

In addition, at least twenty-five states have brought challenges to the federal contractor vaccine mandate, which may result in a preliminary injunction prohibiting enforcement of those requirements. If the federal contractor mandate is enjoined, but the ETS is not stayed (or a stay is promptly lifted), federal contractor employers may have to comply with the ETS instead.

Employers should watch these lawsuits and other ETS-related developments carefully. Employers should also continue to monitor for new Task Force Guidance if they are federal contractors.

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[1] https://www.osha.gov/coronavirus/ets2/faqs.

[2] https://www.osha.gov/sites/default/files/publications/OSHA4162.pdf.

[3] https://www.osha.gov/sites/default/files/publications/OSHA4161.pdf.

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The following Gibson Dunn attorneys assisted in preparing this client update: Eugene Scalia, Jason C. Schwartz, Katherine V.A. Smith, Jessica Brown, Lauren Elliot, Amanda C. Machin, Zoë Klein, Andrew Kilberg, Emily Lamm, Hannah Regan-Smith, Marie Zoglo, Josh Zuckerman, Nicholas Zahorodny, and Kate Googins.

Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding these developments. To learn more about these issues, please contact the Gibson Dunn lawyer with whom you usually work, the authors, or any of the following in the firm’s Administrative Law and Regulatory or Labor and Employment practice groups.

Administrative Law and Regulatory Group:
Eugene Scalia – Washington, D.C. (+1 202-955-8543, escalia@gibsondunn.com)
Helgi C. Walker – Washington, D.C. (+1 202-887-3599, hwalker@gibsondunn.com)

Labor and Employment Group:
Jason C. Schwartz – Washington, D.C. (+1 202-955-8242, jschwartz@gibsondunn.com)
Katherine V.A. Smith – Los Angeles (+1 213-229-7107, ksmith@gibsondunn.com)

© 2021 Gibson, Dunn & Crutcher LLP

Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

Independent compliance monitors are typically appointed to assess the sufficiency and effectiveness of a company’s compliance program and adherence to the terms of a settlement with an enforcement authority, like the SEC or DOJ. Compliance monitors have been a part of the SEC’s and DOJ’s enforcement arsenal for over two decades, and corporate monitorships are now a mainstay of corporate resolutions. Although monitors have been an oversight vehicle for the SEC and DOJ for years, there has been an explosion of their employment by other governmental agencies.

Monitors are now a feature of enforcement by the Environmental Protection Agency (EPA), the Federal Highway Safety Administration (FHSA), the Federal Trade Commission (FTC), and the Food and Drug Administration (FDA), as well as for non-U.S. authorities, like the World Bank and the United Kingdom’s Financial Conduct Authority. Understanding the requirements and expectations of a monitorship, and how to manage the associated costs and burdens on operations, are crucial to achieving a successful monitorship and compliance enhancement process.

Our panelists have served as DOJ-appointed monitors and DOJ-appointed counsel to the monitor, and have counseled numerous companies under external compliance monitors.  As former DOJ officials, they also bring unique perspectives regarding prosecutors’ and regulators’ expectations for various facets of a corporate compliance program.

Please join the panel discussion, which will include:

• Use of monitorships in DOJ and SEC resolutions – statistics and terms (including hybrid monitorships)
  • Benczkowski Memo and monitorship selection
  • DOJ goals in monitorship use and selection
• Being the monitor – goals and strategies
• Strategies for companies that have a monitorship
• Strategies to avoid the imposition of a monitor

View Slides (PDF)

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PANELISTS:

F. Joseph Warin is Co-Chair of Gibson Dunn’s global White Collar Defense and Investigations Practice Group, and Chair of the Washington, D.C. office’s 200-person Litigation Department.  He holds the distinguished position as the only person ever to serve as a compliance monitor or counsel to the compliance monitor in three separate FCPA monitorships, pursuant to settlements with the SEC and DOJ:  Statoil ASA; Siemens AG; and Alliance One International.  Mr. Warin also served as post-resolution counsel to Innospec, Weatherford, and Diebold, during their FCPA monitorships.

Michael S. Diamant is a partner in the Washington, D.C. office. He helped to execute two major, multi-year DOJ/SEC-appointed compliance monitorships, each of which ended successfully, on-time, and with praise from DOJ and SEC attorneys for the monitorship team’s effectiveness. He also served as post-resolution counsel to several companies during their monitorships, helping them to successfully navigate the process and ensure successful and timely completion of the monitorship.  Mr. Diamant’s practice focuses on white collar criminal defense, internal investigations, and corporate compliance, and he regularly advises major corporations on the structure and effectiveness of their compliance programs.

Kristen Limarzi is a partner Gibson Dunn’s Antitrust Practice Group, based in Washington, D.C. She previously served as the Chief of the Appellate Section of the DOJ’s Antitrust Division, where she litigated challenges to the first antitrust compliance monitor imposed following an Antitrust Division civil enforcement action. Leveraging her experience as a top government enforcer, Kristen’s practice focuses on representing clients in merger and non-merger investigations before the DOJ, the Federal Trade Commission, and foreign antitrust enforcers, as well in as appellate and civil litigation.

Patrick F. Stokes is Co-Chair of the Anti-Corruption and FCPA Practice Group. Previously, he headed the DOJ’s FCPA Unit, managing the DOJ’s FCPA enforcement program and all criminal FCPA matters throughout the United States, covering every significant business sector, and including investigations, trials, and the assessment of corporate anti-corruption compliance programs and monitorships.  His practice focuses on internal corporate investigations and enforcement actions regarding corruption, securities fraud, and financial institutions fraud.

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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 1.5 credit hours, of which 1.5 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 CLE@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 1.5 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.

New York Governor Kathy Hochul recently signed a new law dramatically expanding protections for whistleblowers in New York.  New York’s whistleblower law (New York Labor Law Section 740) previously limited anti-retaliation protections to employees who raised concerns about “substantial and specific danger to the public health and safety” or “health care fraud”.  As outlined below, the amended law, which will go into effect on January 26, 2022, expands the scope of who is protected and what is deemed “protected activity” under Section 740.  It also contains additional key changes and requirements for employers.

In sum, the amendments to Section 740:

• Broaden the categories of workers protected against retaliation;
• Expand the scope of protected activity entitling employees to anti-retaliation protection;
• Expand the definition of prohibited retaliatory action;
• Require employers to notify their employees of the whistleblower protections;
• Lengthen the statute of limitations for bringing a cause of action against an employer;
• Allow courts to order additional remedies; and
• Entitle plaintiffs to a jury trial.

Key Changes to NYLL Section 740

Below, we outline the key changes to New York’s whistleblower law, effective January 26.

Expanding The Definition of “Employee” – The amendments expand the range of individuals protected from retaliation to include current and former employees as well as independent contractors.

Expanding Protected Activity – The amendments prohibit employers from retaliating against any employee because the employee:

1. discloses, or threatens to disclose to a supervisor or to a public body an activity, policy or practice of the employer that the employee reasonably believes is in violation of law, rule or regulation or that the employee reasonably believes poses a substantial and specific danger to the public health or safety:
2. provides information to, or testifies before, any public body conducting an investigation, hearing or inquiry into such activity, policy or practice by such employer; or
3. objects to, or refuses to participate in any such activity, policy or practice.

Prior to the new amendments, the law required that, before disclosing violations to a public body, employees first report violations to their employer to afford employers a reasonable opportunity to correct the alleged violation. The new law merely requires employees make a “good faith” effort to notify their employer before disclosing the violation to a public body. Additionally, employer notification is not required for protection under the amended statute if the employee reasonably believes that reporting alleged wrongdoing to their employer will result in the destruction of evidence, other concealment, or harm to the employee, or if the employee reasonably believes that their supervisor is already aware of the practice and will not correct it.

Expanding Prohibited Retaliatory Action – Prior to the amendments, conduct constituting retaliatory action was limited to “discharge, suspension or demotion of an employee, or other adverse employment action taken against an employee in the terms and conditions of employment.”  Adverse action now also includes actions that would “adversely impact a former employee’s current or future employment,” including contacting immigration authorities or reporting the immigration status of employees or their family members.

Statute of Limitations – The new law expands the statute of limitations for filing a retaliation claim from one to two years.

Additional Remedies – Aggrieved plaintiffs are entitled to jury trials, and the amendments allow the recovery of front pay, civil penalties not to exceed $10,000, and punitive damages. Prevailing plaintiffs are also entitled injunctive relief, reinstatement, compensation for lost wages, benefits, and other remuneration, and reasonable costs, disbursements, and attorneys’ fees.  Notably though, if a court finds that a retaliation claim was brought “without basis in law or in fact,” a court may award reasonable attorneys’ fees and court costs and disbursements to the employer.

Employee Notification – Employers must post notice of the protections, rights, and obligations of employees under the law. Such notice should be posted conspicuously and in “accessible and well-lighted places.” The New York Department of Labor will likely publish a model posting in advance of January 26.

Recommendations for Employers

In addition to complying with the new posting requirement, New York employers should consider steps to prepare for an uptick in internal complaints and potential claims.  For example, employers may, as appropriate, consider revisiting their whistleblower and compliance policies, including opening up additional channels for internal reporting of employee concerns.  Employers may also consider additional training for managers on receiving and escalating whistleblower complaints, as appropriate.

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Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding these developments. To learn more about these issues, please contact the Gibson Dunn lawyer with whom you usually work, any member of the firm’s Labor and Employment practice group, or the following authors:

Harris M. Mufson – Co-Head, Whistleblower Team, and Partner, Labor & Employment Group, New York (+1 212-351-3805, hmufson@gibsondunn.com)

Gabrielle Levin – Partner, Labor & Employment Group, New York (+1 212-351-3901, glevin@gibsondunn.com)

Jason C. Schwartz – Co-Chair, Labor & Employment Group, Washington, D.C. (+1 202-955-8242, jschwartz@gibsondunn.com)

Katherine V.A. Smith – Co-Chair, Labor & Employment Group, Los Angeles (+1 213-229-7107, ksmith@gibsondunn.com)

© 2021 Gibson, Dunn & Crutcher LLP

Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

On October 28, 2021, Deputy Attorney General Lisa Monaco spoke to the ABA’s 36th National Institute on White Collar Crime and announced, among other things, three actions the U.S. Department of Justice (“DOJ”) is taking with respect to its policies on corporate criminal enforcement. These relate to:

• Restoring prior DOJ guidance about the need for corporations to provide all non-privileged information about all individuals involved in the misconduct to be eligible for cooperation credit;
• Taking account of a corporation’s full criminal, civil, and regulatory record in making charging decisions, even if dissimilar from the conduct at issue; and
• Making it clear that prosecutors are free to require the imposition of a corporate monitor when they determine it is appropriate to do so.

In summary, as a result of these actions:

• In government investigations, companies will need to identify all individuals involved in the misconduct and provide all non-privileged information about their involvement;
• In charging decisions, DOJ will review companies’ entire criminal, civil, and regulatory record; and
• In corporate resolutions, there is no presumption against the imposition of a corporate compliance monitor, which may be imposed whenever DOJ prosecutors deem it appropriate to do so.

This announcement is notable both for what it does and what it does not purport to do. This Client Alert provides some initial thoughts on the issues outlined by Deputy Attorney General Monaco.

Notably, thus far, the Biden DOJ has not indicated that it plans to rescind or otherwise revisit what possibly was the most significant corporate criminal enforcement announcement of the Trump DOJ: the so-called anti-“piling on” policy announced by then-Deputy Attorney General Rod Rosenstein in 2018, which directs DOJ to coordinate internally and with other authorities to avoid duplicative fines or penalties for the same underlying conduct. Additionally, although Deputy Attorney General Monaco signaled a reversion to Obama-era requirements for corporate cooperation, she did not suggest revisiting DOJ’s firm guidance to its prosecutors that waiver of the attorney-client privilege shall not be required for an organization to receive full cooperation credit. Nevertheless, this announcement, which reflects the first major announcement of the Biden DOJ about corporate criminal enforcement, will undoubtedly have a meaningful impact on investigations and prosecutions.

Corporate Cooperation Credit

Deputy Attorney General Monaco signaled that the DOJ is reverting to the cooperation requirements as outlined in the Yates Memo—a change to corporate cooperation requirements announced by then-Deputy Attorney General Sally Yates in 2015. As discussed in this Client Alert, the Yates Memo augmented the Justice Manual, which provides a comprehensive collection of standards that guide prosecutors from the start of an investigation through prosecution, to require, among other things, that prosecutors premise cooperation credit on organizations providing “all relevant facts relating to the individuals responsible for the misconduct.” This guidance amended Section 9-28 of the Justice Manual, entitled “Principles of Federal Prosecution of Business Organizations,” which sets forth the factors that prosecutors must consider when determining whether to bring criminal charges against a company.  The Trump DOJ subsequently modified the Yates Memo in 2018, in response to concerns that this requirement was inefficiently slowing down corporate investigations. This revision premised cooperation on providing information about individuals who were “substantially” involved in or responsible for the misconduct, rather than requiring information about all individuals involved in the misconduct.

Deputy Attorney General Monaco explained that this is no longer DOJ policy and that the prior guidance on the Yates Memo will control going forward. Specifically, she stated that to receive cooperation credit, organizations must provide to DOJ “all non-privileged information about individuals involved in or responsible for the misconduct at issue.” She underscored that this requirement is irrespective of an individual’s position in the company and observed that the prior standard of “substantially” involved individuals proved unworkable, because the standard was not clear and left too much to the judgment of cooperating companies. Importantly, however, Deputy Attorney General Monaco repeatedly used the phrase “non-privileged information,” strongly signaling no intent to revisit the prohibition on premising cooperation credit on an organization waiving any valid assertion of the attorney-client privilege.

Prior Misconduct

The Justice Manual also advises federal prosecutors to consider a “corporation’s history of similar misconduct” when making a charging decision with regard to an organization. Here too, Deputy Attorney General Monaco announced a shift in DOJ policy. Specifically, no longer will DOJ focus merely on prior misconduct similar to the conduct under investigation. Rather, DOJ will consider other historical misconduct by the corporation. Going forward, “all prior misconduct needs to be evaluated . . . , whether or not that misconduct is similar to the conduct at issue in a particular investigation.”

Deputy Attorney General Monaco explained that, by focusing narrowly only on similar misconduct, the prior guidance failed to consider fully a “company’s overall commitment to compliance programs and the appropriate culture to disincentivize criminal activity.” This approach will sweep broadly to include past regulatory violations and prosecutions by state and local authorities. The speech suggested that prosecutors should exhibit flexibility in recognizing that not all past misconduct is indeed relevant, but provided a baseline at which “prosecutors need to start by assuming all prior misconduct is potentially relevant.” Although Deputy Attorney General Monaco did not indicate how recent past misconduct must be to retain relevance, she gave an example that suggested a focus on more recent violations: “For example, a company might have an antitrust investigation one year, a tax investigation the next, and a sanctions investigation two years after that.”

Monitorships

The final portion of Deputy Attorney General Monaco’s speech focused on corporate compliance monitors, which has been a recurring topic of great interest in corporate enforcement.  Corporations that enter into a negotiated resolution with DOJ generally will be required to pay a fine and penalties, admit to wrongdoing, and fulfill a number of obligations, such as regular reports to the government. On occasion, DOJ also imposes an independent, third-party corporate monitor as part of a negotiated resolution. These monitors observe and assess a company’s compliance with the terms of the resolution and make regular reports to DOJ. They are intended to help companies reduce the risk of recurrence of misconduct.

As the imposition of a monitorship can be quite costly and time-consuming for companies, DOJ has established guidelines to create greater transparency concerning the imposition, selection, and use of monitors. In March 2008, then-Acting Deputy Attorney General Craig Morford issued the first policy memorandum (the “Morford Memo”) establishing basic standards surrounding corporate monitorships.  In determining the appropriateness of imposing a monitor, the Morford Memo advised prosecutors to consider both the potential benefits of a monitor and “the cost of a monitor and its impact on the operations of a corporation.” The Morford Memo further cautioned that monitors should never be used “to further punitive goals.”

More recently, in October 2018, then-Assistant Attorney General Brian Benczkowski issued a memorandum (the “Benczkowski Memo”), which significantly expanded on the Morford Memo. The Benczkowski Memo further stressed the Morford Memo’s pronouncement that prosecutors should assess both the benefits and the cost of imposing a monitor, stating that monitors should only be favored “where there is a demonstrated need for, and clear benefit to be derived from, a monitorship relative to the projected costs and burden.” Moreover, the Benczkowski Memo explained that if a company has demonstrated that it has a demonstrably effective compliance program and controls, “a monitor will likely not be necessary.”

Deputy Attorney General Monaco’s remarks suggest that DOJ is poised to loosen prior guardrails around the impositions of monitors. Deputy Attorney General Monaco explained that, where trust in a corporation’s commitment to improvement and self-policing is called into question, monitors are a longstanding tool in DOJ’s arsenal to motivate and verify compliance.  To that end, Deputy Attorney General Monaco emphasized that DOJ “is free to require the imposition of independent monitors whenever it is appropriate to do so” and made clear that she is “rescinding” any prior DOJ guidance suggesting that monitorships are an exception or disfavored.

Deputy Attorney General Monaco made clear that the decision to impose a monitor must still consider the monitorship’s administration and the standards by which monitors will accomplish their work. With respect to the selection of monitors, Deputy Attorney General Monaco announced that DOJ will study how corporate monitors are chosen and whether that process should be standardized across all DOJ components and offices.

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Deputy Attorney General Monaco framed all three of these changes to DOJ policy as part of a broader Biden DOJ initiative to revisit the standards and practices that DOJ has applied to corporate criminal enforcement. Notably, she announced the formation of a Corporate Crime Advisory Group within DOJ, featuring representatives from each portion of DOJ that brings enforcement actions against corporations, to make recommendations on enhancing departmental policy in this area. Among the areas the Advisory Group will consider are the efficacy of the current approach to pretrial diversion (non-prosecution and deferred prosecution agreements), especially in cases of arguably recidivist organizations, and DOJ’s standards and practices for the selection of corporate monitors.

Over the coming weeks and months, we will carefully monitor DOJ implementation of these new measures.

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The following Gibson Dunn lawyers assisted in preparing this client update: F. Joseph Warin, M. Kendall Day, Robert K. Hur, Michael S. Diamant, David P. Burns, Stephanie Brooker, Christopher W.H. Sullivan, and Jason H. Smith.

Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding these issues. Please contact the Gibson Dunn attorney with whom you work, the authors, or any of the following leaders and members of the firm’s Anti-Corruption and FCPA or White Collar Defense and Investigations practice groups:

Washington, D.C.
F. Joseph Warin (+1 202-887-3609, fwarin@gibsondunn.com)
M. Kendall Day (+1 202-955-8220, kday@gibsondunn.com)
Stephanie L. Brooker (+1 202-887-3502, sbrooker@gibsondunn.com)
David P. Burns (+1 202-887-3786, dburns@gibsondunn.com)
John W.F. Chesley (+1 202-887-3788, jchesley@gibsondunn.com)
Daniel P. Chung (+1 202-887-3729, dchung@gibsondunn.com)
David Debold (+1 202-955-8551, ddebold@gibsondunn.com)
Michael Diamant (+1 202-887-3604, mdiamant@gibsondunn.com)
Richard W. Grime (202-955-8219, rgrime@gibsondunn.com)
Scott D. Hammond (+1 202-887-3684, shammond@gibsondunn.com)
Robert K. Hur (+1 202-887-3674, rhur@gibsondunn.com)
Judith A. Lee (+1 202-887-3591, jalee@gibsondunn.com)
Adam M. Smith (+1 202-887-3547, asmith@gibsondunn.com)
Patrick F. Stokes (+1 202-955-8504, pstokes@gibsondunn.com)
Oleh Vretsona (+1 202-887-3779, ovretsona@gibsondunn.com)
Courtney M. Brown (+1 202-955-8685, cmbrown@gibsondunn.com)
Christopher W.H. Sullivan (+1 202-887-3625, csullivan@gibsondunn.com)
Jason H. Smith (+1 202-887-3576, jsmith@gibsondunn.com)
Ella Alves Capone (+1 202-887-3511, ecapone@gibsondunn.com)
Pedro G. Soto (+1 202-955-8661, psoto@gibsondunn.com)
Melissa Farrar (+1 202-887-3579, mfarrar@gibsondunn.com)

New York
Zainab N. Ahmad (+1 212-351-2609, zahmad@gibsondunn.com)
Matthew L. Biben (+1 212-351-6300, mbiben@gibsondunn.com)
Reed Brodsky (+1 212-351-5334, rbrodsky@gibsondunn.com)
Joel M. Cohen (+1 212-351-2664, jcohen@gibsondunn.com)
Mylan L. Denerstein (+1 212-351-3850, mdenerstein@gibsondunn.com)
Lee G. Dunst (+1 212-351-3824, ldunst@gibsondunn.com)
Barry R. Goldsmith (+1 212-351-2440, bgoldsmith@gibsondunn.com)
Christopher M. Joralemon (+1 212-351-2668, cjoralemon@gibsondunn.com)
Mark A. Kirsch (+1 212-351-2662, mkirsch@gibsondunn.com)
Randy M. Mastro (+1 212-351-3825, rmastro@gibsondunn.com)
Karin Portlock (+1 212-351-2666, kportlock@gibsondunn.com)
Marc K. Schonfeld (+1 212-351-2433, mschonfeld@gibsondunn.com)
Orin Snyder (+1 212-351-2400, osnyder@gibsondunn.com)
Alexander H. Southwell (+1 212-351-3981, asouthwell@gibsondunn.com)
Lawrence J. Zweifach (+1 212-351-2625, lzweifach@gibsondunn.com)

Denver
Robert C. Blume (+1 303-298-5758, rblume@gibsondunn.com)
John D.W. Partridge (+1 303-298-5931, jpartridge@gibsondunn.com)
Ryan T. Bergsieker (+1 303-298-5774, rbergsieker@gibsondunn.com)
Laura M. Sturges (+1 303-298-5929, lsturges@gibsondunn.com)

Los Angeles
Nicola T. Hanna (+1 213-229-7269, nhanna@gibsondunn.com)
Debra Wong Yang (+1 213-229-7472, dwongyang@gibsondunn.com)
Marcellus McRae (+1 213-229-7675, mmcrae@gibsondunn.com)
Michael M. Farhang (+1 213-229-7005, mfarhang@gibsondunn.com)
Douglas Fuchs (+1 213-229-7605, dfuchs@gibsondunn.com)
Eric D. Vandevelde (+1 213-229-7186, evandevelde@gibsondunn.com)

San Francisco
Winston Y. Chan (+1 415-393-8362, wchan@gibsondunn.com)
Thad A. Davis (+1 415-393-8251, tadavis@gibsondunn.com)
Charles J. Stevens (+1 415-393-8391, cstevens@gibsondunn.com)
Michael Li-Ming Wong (+1 415-393-8333, mwong@gibsondunn.com)

Palo Alto
Benjamin Wagner (+1 650-849-5395, bwagner@gibsondunn.com)

London
Patrick Doris (+44 20 7071 4276, pdoris@gibsondunn.com)
Charlie Falconer (+44 20 7071 4270, cfalconer@gibsondunn.com)
Sacha Harber-Kelly (+44 20 7071 4205, sharber-kelly@gibsondunn.com)
Michelle Kirschner (+44 20 7071 4212, mkirschner@gibsondunn.com)
Matthew Nunan (+44 20 7071 4201, mnunan@gibsondunn.com)
Philip Rocher (+44 20 7071 4202, procher@gibsondunn.com)
Steve Melrose (+44 20 7071 4219, smelrose@gibsondunn.com)

Paris
Benoît Fleury (+33 1 56 43 13 00, bfleury@gibsondunn.com)
Bernard Grinspan (+33 1 56 43 13 00, bgrinspan@gibsondunn.com)

Munich
Benno Schwarz (+49 89 189 33-110, bschwarz@gibsondunn.com)
Michael Walther (+49 89 189 33-180, mwalther@gibsondunn.com)
Mark Zimmer (+49 89 189 33-130, mzimmer@gibsondunn.com)

Dubai
Graham Lovett (+971 (0) 4 318 4620, glovett@gibsondunn.com)

Hong Kong
Kelly Austin (+852 2214 3788, kaustin@gibsondunn.com)
Oliver D. Welch (+852 2214 3716, owelch@gibsondunn.com)

São Paulo
Lisa A. Alfaro (+5511 3521-7160, lalfaro@gibsondunn.com)
Fernando Almeida (+5511 3521-7093, falmeida@gibsondunn.com)

Singapore
Joerg Bartz (+65 6507 3635, jbartz@gibsondunn.com)

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Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

China’s Anti-Monopoly Law (“AML”) was adopted in 2007 and talks about possible amendments have regularly surfaced in the last few years. The State Administration for Market Regulation (“SAMR”)  released a draft amendment for public comments in early 2020. The process is now accelerating with a formal text (“AML Amendment”) submitted to the thirty-first session of the Standing Committee of the National People’s Congress for first reading on 19 October 2021. This client alert summarizes the main proposed changes to the AML, which have been published for comments.[1]

1.   Targeting the digital economy

Emphasis on the digital economy. Technology firms and digital markets have been the subject of a broad regulatory assault in China, including one that is based on the AML.  SAMR has published specific guidelines on the application of the AML to platforms in early 2021 and has imposed significant fines on these market players in the last months. For example, SAMR fined Meituan, an online food delivery platform provider, RMB 3.44 billion (~$534 million) for abusing its dominant position.[2]  The AML Amendment specifically refers to enforcement in the digital economy by making it clear that undertakings shall not exclude or restrict competition by abusing the advantages in data and algorithms, technology and capital and platform rules. At the same time, the objectives to the AML have also been updated to include “encouraging innovation.” Going forward, SAMR will need to tread the delicate line between encouraging digital innovation and curbing such advancement where it constitutes abusive market behaviour. In the most recent year, at least, in practice there has been an emphasis on enforcement rather than fostering innovation, a trend we anticipate will continue.

2.   Substantive changes

Cartel facilitators. The AML arguably does not cover the behaviour of undertakings facilitating anticompetitive conduct, in particular cartels. The AML Amendment fills the gap by extending the scope of the AML to the organisation or provision of material assistance in reaching anticompetitive- agreements. This effectively means that the AML will be extended to cover behaviour leading up to the conclusion of such agreements, and third parties may be found in breach by virtue of their role in aiding the conclusion of cartels.

Abandoning per se treatment of resale price maintenance. The application of the AML to resale price maintenance (“RPM”) is confusing. While SAMR seems to apply a strict “per se” approach, the courts have generally adopted a rule of reason analysis, only prohibiting RPM when it led to anticompetitive effects.[3]  The AML Amendment seems to favour the courts’ approach by providing that RPM is not prohibited if the supplier can demonstrate the absence of anticompetitive effects.

Safe harbour for anticompetitive agreements. The AML Amendment introduces a safe harbour for anticompetitive agreements. Agreements between undertakings that have a market share lower than a specific threshold to be set by SAMR will not be prohibited unless there is evidence that the agreement has anticompetitive effects. Given that this is not a complete exemption from the prohibition, it is very much the question whether this safe harbour will be at all useful to undertakings.

Merger review of sub-threshold transactions. The State Council Regulation on the Notification Thresholds for Concentrations of Undertakings already provides SAMR with the right to review transactions that do not meet the thresholds for mandatory review. This right would now directly be enshrined in the AML.

Stop-the-clock in merger investigations. SAMR will have the power to suspend the review period in merger investigations under any of the following scenarios: where the undertaking fails to submit documents and materials leading to a failure of the investigation; where new circumstances and facts that have a major impact on the review of the merger need to be verified; or where additional restrictive conditions on the merger need to be further evaluated and the undertakings concerned agree. The clock resumes once the circumstances leading to the suspension are resolved. It seems that this mechanism may be used to replace the “pull-and-refile” in contentious merger investigations.

3.   Increased penalties

Penalties on individuals. The AML Amendment would introduce personal liability for individuals. In particular, if the legal representative, principal person-in-charge or directly responsible person of an undertaking is personally responsible for reaching an anticompetitive agreement, a fine of not more than RMB 1 million (~$157,000) can be imposed on that individual. At this stage, however, cartel leniency is not available to individuals.

Penalties on cartel facilitators. As explained above, cartel facilitators will be liable for their conduct. They risk penalties of not more than RMB 1 million (~$157,000).

Increased penalties for merger-related conduct. One of the weaknesses of the AML is the very low fines for gun jumping (limited to RMB 500,000). The AML Amendment now states that where an undertaking implements a concentration in violation of the AML, a fine of less than 10% of the sales from the preceding year shall be imposed. Where such concentration does not have the effect of eliminating or restricting competition, the fine will be less than RMB 5 million (~$780,000).

Superfine. SAMR can multiply the amount of the fine by a factor between 2 and 5 in case it is of the opinion that the violation is “extremely severe”, its impact is “extremely bad” and the consequence is “especially serious.” There is no definition of what these terms mean and this opens the door to very significant and potentially arbitrary fines.

Penalties for failure to cooperate with investigation. Where an undertaking refuses to cooperate in anti-monopoly investigations, e.g. providing false materials and information, or conceals, destroy or transfer evidence, SAMR has the authority to impose a fine of less than 1% of the sales from the preceding year, and where there are no sales or the data is difficult to be assessed, the maximum fine on enterprises or individuals involved is RMB 5 million (~$780,000) and RMB 500,000 (~$70,000) respectively.

Public interest lawsuit. Finally, public prosecutors (i.e. the people’s procuratorate) can bring a civil public interest lawsuit against undertakings they have acted against social and public interests by engaging in anticompetitive conduct.

______________________________

   [1]   National People’s Congress of the People’s Republic of China, “Draft Amendment to the Anti-Monopoly Law” (中华人民共和国反垄断法(修正草案)) (released on October 25, 2021), available at http://www.npc.gov.cn/flcaw/flca/ff8081817ca258e9017ca5fa67290806/attachment.pdf.

   [2]   SAMR, “Announcement of SAMR’s Penalty To Penalise Meituan’s Monopolistic Behaviour In Promoting “Pick One Out Of Two” In The Online Food Delivery Platform Service Market” (市场监管总局依法对美团在中国境内网络餐饮外卖平台服务市场实施“二选一”垄断行为作出行政处罚) (released on October 8, 2021), available at http://www.samr.gov.cn/xw/zj/202110/t20211008_335364.html.

   [3]   Gibson Dunn, “Antitrust in China – 2018 Year in Review” (released on February 11, 2019), available at https://www.gibsondunn.com/antitrust-in-china-2018-year-in-review/.

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The following Gibson Dunn lawyers assisted in the preparation of this client update: Sébastien Evrard, Bonnie Tong, and Jane Lu.

Gibson Dunn lawyers are available to assist in addressing any questions you may have regarding these issues.  Please contact the Gibson Dunn lawyer with whom you usually work, any member of the firm’s Antitrust and Competition Practice Group, or the following lawyers in the firm’s Hong Kong office:

Sébastien Evrard (+852 2214 3798, sevrard@gibsondunn.com)
Kelly Austin (+852 2214 3788, kaustin@gibsondunn.com)

Please also feel free to contact the following practice leaders:

Antitrust and Competition Group:
Rachel S. Brass – San Francisco (+1 415-393-8293, rbrass@gibsondunn.com)
Ali Nikpay – London (+44 20 7071 4273, anikpay@gibsondunn.com)
Christian Riis-Madsen – Brussels (+32 2 554 72 05, criis@gibsondunn.com)
Stephen Weissman – Washington, D.C. (+1 202-955-8678, sweissman@gibsondunn.com)

© 2021 Gibson, Dunn & Crutcher LLP

Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

On September 16, 2021, Governor Gavin Newsom signed bipartisan legislation intended to expand housing production in California, streamline the process for cities to zone for multi-family housing, and increase residential density, all in an effort to help ease California’s housing shortage. The suite of housing bills includes California Senate Bill (“SB”) 8 (Skinner), SB 9 (Atkins), and SB 10 (Weiner). Each of the bills will take effect on January 1, 2022. Some have characterized the bills as “the end of single family zoning.”  In practice the results may be more nuanced, but the net effect will be to allow significantly more development of housing units “by right.”

SB 8

SB 8 is an omnibus clean-up bill impacting several previous housing initiatives. Notably, it extends key provisions of SB 330, also known as the Housing Crisis Act of 2019 (previously set to expire in 2025),  until January 1, 2030. That act set limits on the local approval process for housing projects, curtailed local governments’ ability to downzone residential parcels after project initiation, and limited fee increases on housing applications, among other key provisions. If a qualifying preliminary application for a housing development is submitted prior to January 1, 2030, then rights to complete that project can vest until January 1, 2034. The amendment specifies that it does not prohibit a housing development project from being subject to ordinances, policies, and standards adopted after a preliminary application was submitted if the project has not commenced construction within two and a half (2.5) years, or three and a half (3.5) years if the project is an affordable housing project.

Existing law provides that if a proposed housing development project complies with the applicable objective general plan and zoning standards in effect at the time an application is deemed complete, then after the application is deemed complete, a city, county, or city and county shall not conduct more than five hearings pursuant to Section 65905, or any other law requiring a public hearing in connection with the approval of that housing development project. SB 8 expands the definition of “hearing” from any public hearing, workshop, or similar meeting to explicitly include “any appeal” conducted by the city or county with respect to the housing development project.  A “housing development project” is also defined to include projects that involve no discretionary approvals, projects that involve both discretionary and nondiscretionary approvals, and projects to construct a single dwelling unit. The receipt of a density bonus does not constitute a valid basis on which to find that a proposed housing project is inconsistent, not in compliance, or not in conformity, with an applicable plan, program, policy, ordinance, standard, requirement, or other similar provision. This section applies to housing development projects that submit a preliminary application after January 1, 2022 and before January 1, 2030.

SB 8 further amends the Government Code to state that with respect to land where housing is an allowable use, an affected city of county, defined as a city, including charter city, that the Department of Housing and Community Development determines is in an urbanized area or urban cluster, as designated by the Census Bureau, shall not enact a development policy, standard or condition that would have the effect of changing the general plan land use designation, specific plan land use designation, or zoning of a parcel or parcels of property to a less intensive use or reducing the intensity of land use within an existing general plan land use designation, specific plan land use designation, or zoning district in effect at the time of the proposed change. “Reducing the intensity of land use” includes, but is not limited to, reductions to height, density, or floor area ratio, new or increased open space or lot size requirements, new or increased setback requirements, minimum frontage requirements, or maximum lot coverage limitations, or any other action that would individually or cumulatively reduce the site’s residential development capacity.

SB 8 further provides that a city or county may not approve a housing development project that will require the demolition of occupied or vacant protected rental units unless all requirements are met. These requirements include that the project will replace all existing or demolished protected units and that the housing development project will include at least as many residential dwelling units as the greatest number of residential dwelling units that existed on the project site within the last five years. “Protected units” means any of the following: (i) residential dwelling units that are or were subject to a recorded covenant, ordinance, or law that restricts rents to levels affordable to persons and families of lower or very low income within the past five years, (ii) residential dwelling units that are or were subject to any form of rent control within the past five years, (iii) residential dwelling units that are or were occupied rented  by lower or very low income households within the past five years, and (iv) residential dwelling units that were withdrawn from rent or lease in accordance with the Ellis Act within the past 10 years.

SB 8 adds the general requirement that any existing occupants that are required to leave their units shall be allowed to return at their prior rental rate if the demolition does not proceed and the property is returned to the rental market (with no time limit  specified in the bill text).  The developer must agree to provide existing occupants of any protected units that are of lower income households: relocation benefits and a right of first refusal for a comparable unit (defined as either a unit containing the same number of bedrooms if the single-family home contains three or fewer bedrooms or a unit containing three bedrooms if the single-family home contains four or more bedrooms) available in the new housing development affordable to the household at an affordable rent (as defined in Section 50053 of the Health and Safety Code).

SB 9

SB 9, the California Housing Opportunity and More Efficiency (“HOME”) Act, facilitates the process for homeowners to subdivide their current residential lot or build a duplex. State law currently provides for the creation of accessory dwelling units by local ordinance, or, if a local agency has not adopted an ordinance, by ministerial approval, in accordance with specified standards and conditions. SB 9 allows for ministerial approval, without discretionary review or hearings, of duplex residential development on single-family zoned parcels.

SB 9 allows housing development projects of no more than two dwelling units on a single-family zoned parcel to be permitted on a ministerial basis if the project satisfies the SB 9 requirements. In order for a housing project to qualify under SB 9 the project must be located within a city, the boundaries of which must include some portion of either urbanized area or urban cluster, as designated by the United States Census Bureau, or, for unincorporated areas, the parcel must be wholly within the boundaries of an urbanized area or urban cluster. The project may not require demolition or alteration of the following types of housing: (i) housing that is subject to a recorded covenant, ordinance, or law that restricts rents to affordable levels, (ii) housing subject to rent control, or (iii) housing that has been tenant-occupied in the last three (3) years (with no distinction drawn between market rate and affordable housing). Further, the project may not have been withdrawn from the rental market under the Ellis Act within the past fifteen (15) years. The proposed development also may not demolish more than twenty-five percent (25%) of existing exterior structural walls, unless expressly permitted by a local ordinance or the project has not been tenant occupied within the past three years.

The project may not be located within a historic district or property included on the State Historic Resources Inventory or within a site that is designated as a city or county landmark or historic property pursuant to local ordinance. A local agency may impose objective zoning standards, subdivision standards, and design standards unless they would preclude either of the two units from being at least 800 square feet in floor area.

No setback may be required for an existing structure or a structure constructed in the same location and dimensions as an existing structure. In other circumstances, a local agency may require a setback of up to four feet (4’) from the side and rear lot lines. Off-street parking of up to one (1) space per unit may be required by the local agency, except if the project is located within a half-mile walking distance of a high-quality transit corridor or a major transit stop, or if there is a car share vehicle within one block of the parcel. If a local agency makes a written finding that a project would create a specific, adverse impact upon public health and safety or the environment without a feasible way to mitigate such impact, the agency still may deny the housing project.

A local agency must require that rental of a unit created pursuant to SB 9 be for a term longer than 30 days, thus preventing application of SB 9 to promote speculation in the short-term rental market.

SB 9 does not supersede the California Coastal Act, except that the local agency is not required to hold public hearings for coastal development permit applications for a housing development pursuant to SB 9. A local agency may not reject an application solely because it proposes adjacent or connected structures, provided that they meet building code safety standards and are sufficient to allow separate conveyance .

Projects that meet the SB 9 requirements must be approved by a local agency ministerially and are not subject to the California Environmental Quality Act (“CEQA”).

SB 9 also allows for qualifying lot splits to be approved ministerially upon meeting the bill requirements. Each parcel may not be smaller than forty (40%) percent of the original parcel size and each parcel must be at least one thousand two hundred (1,200) square feet in size unless permitted by local ordinance. The parcel must also be limited to residential use. Neither the owner of the parcel being subdivided nor any person acting in concert with the owner may have previously subdivided an adjacent parcel using a lot split as provided for in SB 9. The applicant must also provide an affidavit that the applicant intends to use one of the housing units as a principal residence for at least three (3) years from the date of approval.

A local agency may not condition its approval of a project under SB 9 upon a right-of-way dedication, any off-site improvements, or correction of nonconforming zoning conditions. The local agency is not required to approve more than two (2) units on a parcel. The local agency may require easements for public services and facilities and access to the public right-of-way.

SB 9 changes the rules regarding the life of subdivision maps by extending the additional expiration limit for a tentative map that may be provided by local ordinance, from 12 months to 24 months.

SB 10

SB 10 creates a voluntary process for local governments to pass ordinances prior to January 1, 2029 to zone any parcel for up to ten (10) residential units if located in transit rich areas and urban infill sites. Adopting a local ordinance or a resolution to amend a general plan consistent with such an ordinance would be exempt from review under the California Environmental Quality Act (“CEQA”). This provides cities, including charter cities, an increased ability to upzone property for housing without the processing delays and litigation risks associated with CEQA. However, if the new housing authorized by the general plan would require a discretionary approval to actually build the housing (for example, a subdivision map or design review), CEQA review would be required for those subsequent approvals, and the benefits of the law may prove limited.  Moreover, in contrast to SB 9, each individual city or county must affirmatively pass an ordinance authorizing the upzoning.

A “transit rich area” means a parcel within one-half mile of a major transit stop, as defined in Section 21064.3 of the Public Resources Code, or a parcel on a high quality bus corridor. A “high quality bus corridor” means a corridor with fixed route bus service that meets all of the following criteria: (i) it has average service intervals of no more than 15 minutes during the three peak hours between 6 a.m. to 10 a.m., inclusive, and the three peak hours between 3 p.m. and 7 p.m., inclusive, on Monday through Friday; (ii) it has average service intervals of no more than 20 minutes during the hours of 6 a.m. to 10 p.m., inclusive, on Monday through Friday; and (iii) it has average intervals of no more than 30 minutes during the hours of 8 a.m. to 10 p.m., inclusive, on Saturday and Sunday. An “urban infill site” is a site that satisfies all of the following: (i) it is a legal parcel or parcels located in a city if, and only if, the city boundaries include some portion of either an urbanized area or urban cluster, or, for unincorporated areas, a legal parcel or parcels wholly within the boundaries of an urbanized area or urban cluster, as designated by the United States Census Bureau; (ii) a site in which at least seventy-five percent (75%) of the perimeter of the site adjoins parcels that are developed with urban uses (parcels that are only separated by a street or highway shall be considered to be adjoined); and (iii) a site that is zoned for residential use or residential mixed-use development, or has a general plan designation that allows residential use or a mix of residential and nonresidential uses, with at least two-thirds of the square footage of the development designated for residential use.

Zoning ordinances adopted pursuant to the authority granted under SB 10 must explicitly declare that the ordinance is adopted pursuant to SB 10 and clearly demarcate the areas that are zoned pursuant to SB 10, and the local legislative body must make a finding that the increased density authorized by such ordinance is consistent with the city or county’s obligations to further fair housing pursuant to Government Code Section 8899.50. A legislative body that approves a zoning ordinance pursuant to SB 10 may not subsequently reduce the density of any parcel subject to the ordinance. The bill text does not explicitly state a sunset on this restriction.

A zoning ordinance adopted pursuant to SB 10 may override a local ballot initiative which restricts zoning only if adopted by a two-thirds vote of the members of the legislative body. The creation of up to two accessory dwelling units (“ADUs”) or junior ADUs (“JADUs”) per parcel is allowed, and these units would not count towards the ten unit count.

SB 10 does not apply to parcels located within a high or very high fire hazard severity zone, as determined by the Department of Forestry and Fire Protection, but this restriction does not apply to sites that have adopted fire hazard mitigation measures pursuant to existing building standards or state fire mitigation measures applicable to the development. SB 10 also does not apply to any local restriction enacted or approved by a local ballot initiative that designates publicly owned land as open-space land, as defined in Section 65560(h), or for park or recreational purposes. Furthermore, a project may not be divided into smaller projects in order to exclude the project from the limitations of SB 10.

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The following Gibson Dunn attorneys prepared this client update: Amy Forbes, Doug Champion, and Maribel Garcia Ochoa.

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, the authors, or any of the following leaders and members of the firm’s Land Use and Development or Real Estate practice groups in California:

Doug Champion – Los Angeles (+1 213-229-7128, dchampion@gibsondunn.com)
Amy Forbes – Los Angeles (+1 213-229-7151, aforbes@gibsondunn.com)
Mary G. Murphy – San Francisco (+1 415-393-8257, mgmurphy@gibsondunn.com)

© 2021 Gibson, Dunn & Crutcher LLP

Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

In a judgment dated 14 October 2021 related to the so-called “Case of the Century”, the Paris Administrative Court (the Court) ordered the State to make good the consequences of its failure to reduce greenhouse gas (GHG) emissions. In this respect, the Court ordered that the excess of the GHG emissions cap set by the first carbon budget be offset by 31 December 2022 at the latest. The French Government remains free to choose the appropriate measures to achieve this result.

I.   Background to the Judgment

In March 2019, four non-profit organizations had filed petitions before the Court to have the French State’s failure to combat climate change recognized, to obtain its condemnation to compensate not only their moral prejudice but also the ecological prejudice and to put an end to the State’s failures to meet its obligations.

In a judgment dated February 3, 2021, the Court ruled that the State should compensate for the ecological damage caused by the failure to comply with the objectives set by France in terms of reducing GHG emissions and, more specifically, the objectives contained in the carbon budget for the period 2015-2019. As a reminder, France has defined a National Low-Carbon Strategy, which describes both a trajectory for reducing GHG emissions until 2050 and short- and medium-term objectives. These latter, called carbon budgets, are emission ceilings expressed as an annual average per five-year period, that must not be exceeded. The Court also ordered a further investigation before ruling on the evaluation and concrete methods of compensation for this damage (please see Gibson Dunn’s previous client alert).

In the separate Grande Synthe case, the Council of State – France’s highest administrative court – on 1 July 2021 enjoined the Prime Minister to take all appropriate measures to curb the curve of GHG emissions produced on national territory to ensure its compatibility with the 2030 GHG emission reduction targets set out in Article L. 100-4 of the Energy Code and Annex I of Regulation (EU) 2018/842 of 30 May 2018 before 31 March 2022.

II.   The steps in the reasoning followed by the Tribunal

First, the Court considers that it is dealing solely with a dispute seeking compensation for the environmental damage caused by the exceeding of the first carbon budget and the prevention or cessation of the damage found and that it is for the Court to ascertain, at the date of its judgment, whether that damage is still continuing and whether it has already been the subject of remedial measures.

On the other hand, the Court considers that it is not for it to rule on the sufficiency of the measures likely to make it possible to achieve the objective of reducing GHGs by 40% by 2030 compared to their 1990 level, which is a matter for the litigation brought before the Council of State.

Second, the Court considers that it can take into account, as compensation for damage and prevention of its aggravation, the very significant reduction in GHG emissions linked to the Covid 19 crisis and not to the action of the State.

However, the Court finds that the data relating to the reduction of GHG emissions for the first quarter of 2021 do not make it possible to consider as certain, in the state of the investigation, that this reduction would make it possible to repair the damage and prevent it from worsening. It concludes that the injury continues to be 15 Mt CO2eq.

Third, the Court considers that it can apply articles 1246, 1249 and 1252 of the Civil Code, which give it the power to order an injunction in order to put an end to an ongoing injury and prevent its aggravation.

The State argued in its defense that the injunction issued by the Council of State in its decision of 1 July, 2021 already made it possible to repair the ecological damage observed. The Court nevertheless considers that the injunction issued by the Conseil d’Etat aims to ensure compliance with the overall objective of a 40% reduction in GHG emissions in 2030 compared to their 1990 level and that it does not specifically address the compensation of the quantum of the damage associated with exceeding the first carbon budget. Since the injunction sought from the Court is specifically intended to put an end to the damage and prevent it from worsening, the Court considers that it is still useful and that the non-profit organizations are entitled to request that it be granted.

Fourth, the Court indicated that “the ecological damage arising from a surplus of GHG emissions is continuous and cumulative in nature since the failure to comply with the first carbon budget has resulted in additional GHG emissions, which will be added to the previous ones and will produce effects throughout the lifetime of these gases in the atmosphere, i.e. approximately 100 years. Consequently, the measures ordered by the judge in the context of his powers of injunction must be taken within a sufficiently short period of time to allow, where possible, the damage to be made good and to prevent or put an end to the damage observed.

As the State failed to demonstrate that the measures to be taken pursuant to the Climate Act of 20 August 2021 will fully compensate for the damage observed, the Court then ordered “the Prime Minister and the competent ministers to take all appropriate sectoral measures to compensate for the damage up to the amount of the uncompensated share of GHG emissions under the first carbon budget, i.e. 15 Mt CO2eq, and subject to an adjustment in the light of the estimated data of the [Technical Reference Centre for Atmospheric Pollution and Climate Change] known as of 31 January 2022, which make it possible to ensure a mechanism for monitoring GHG emissions“.

In view of (i) the cumulative effect of the harm linked to the persistence of GHGs in the atmosphere and the damage likely to result therefrom, and (ii) the absence of information making it possible to quantify such harm, the Court orders that the abovementioned measures be adopted within a period sufficiently short to prevent their aggravation.

Finally, he adds that:

(i)      “the concrete measures to make reparation for the injury may take various forms and therefore express choices which are within the free discretion of the Government“;

(ii)     repair must be effective by 31 December 2022, which means that measures must be taken quickly to achieve this objective;

(iii)    that no penalty be imposed in addition to the injunction.

III.   The aftermath of the Judgment

The Government has two months in which to appeal against the Judgment. If the Judgment is appealed, the application for enforcement will have to be submitted to the Administrative Court of Appeal in Paris.

If the Government decides not to contest the Judgment, it will have to take the necessary measures for each of the sectors identified in the SNBC (transport, agriculture, construction, industry, energy, waste), which will probably mean imposing new standards on economic actors and individuals.

If, on December 31, 2022, the non-profit organizations consider that the Judgment has not been properly executed, i.e., if the measures taken by the Government have not made it possible to repair the damage up to the amount of 15 Mt CO2eq, they will be able to refer the matter to the Tribunal so that it may order, after investigation, a measure to execute the Judgment, which will most likely be a penalty payment.

As a reminder, in a decision of August 4, 2021, the Council of State condemned the State to pay the sum of 10 million euros to various organizations involved in the fight against air pollution for not having fully implemented its previous decisions regarding its failure to improve air quality in several areas in France.

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The following Gibson Dunn attorneys assisted in preparing this client update: Nicolas Autet and Grégory Marson.

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, the authors, or any of the following lawyers in Paris by phone (+33 1 56 43 13 00) or by email:

Nicolas Autet (nautet@gibsondunn.com)
Grégory Marson (gmarson@gibsondunn.com)
Nicolas Baverez (nbaverez@gibsondunn.com)
Maïwenn Béas (mbeas@gibsondunn.com)

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Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

On Friday October 15, 2021, the Commodity Futures Trading Commission (CFTC) issued an enforcement order (Tether Order) against the issuers of the U.S. dollar Tether token (USDT), a leading stablecoin, and fined those issuers $41 million for making untrue or misleading statements about maintaining sufficient fiat currency reserves to back each USDT “one-to-one.”[1] In so doing, the CFTC asserted that USDT is a “commodity” under the Commodity Exchange Act (CEA).

The Tether Order is significant for few reasons. First, it marks the first U.S. enforcement action against a major stablecoin. Second, the CFTC has now asserted that it has some enforcement authority over stablecoins, just at the time that the Biden Administration is gearing up its regulatory approach to digital currencies in general and stablecoins in particular. Securities and Exchange Commission (SEC) Chair Gary Gensler stated earlier this year that he believed that certain stablecoins, such as those backed by securities, are securities,[2] and the President’s Working Group on Financial Markets will soon be issuing a report on stablecoins.[3] Third, the CFTC’s assertion that USDT is a commodity signals that stablecoins that are backed one-to-one with fiat currency are not securities and therefore are not directly subject to the SEC’s jurisdiction.

CFTC Legal Authority

Although the CFTC is principally a regulator of the markets for commodity futures and derivatives such as swaps, it does have certain enforcement authority over commodities in the cash markets (i.e., spot commodities). Section  6(c)(1) of the Commodity Exchange Act, provides that it is “unlawful for any person, directly or indirectly, to use or employ, or attempt to use or employ, in connection with any swap, or a contract of sale of any commodity in interstate commerce, . . . any manipulative or deceptive device or contrivance, in contravention of such rules and regulations as the Commission shall promulgate.”[4] The CFTC has promulgated regulations pursuant to Section 6(c)(1), which render unlawful intentional or reckless statements or omissions “in connection with . . . any contract of sale of any commodity in interstate commerce.”[5] When those regulations were promulgated, the CFTC stated that “[it] expect[ed] to exercise its authority under 6(c)(1) to cover transactions related to the futures or swaps markets, or prices of commodities in interstate commerce, or where the fraud or manipulation has the potential to affect cash commodity, futures, or swaps markets or participants in these markets.”[6]

Tether Order

Prior to the Tether Order, the CFTC had asserted that some digital assets are commodities.[7] The Tether Order definitively states that USDT is a commodity (and, in dicta, asserts that bitcoin, ether, and litecoin are commodities as well). It then alleges that the issuers of USDT made material misstatements under Section 6(c)(1) of the CEA and its implementing regulations regarding whether USDT was backed on a one-to-one basis with fiat currency reserves and whether this reserving would undergo regular professional audits, and the issuers made material omissions regarding the timing of one of the reserve reviews that USDT issuers did take.[8] Without admitting or denying the CFTC’s findings and conclusions, the USDT issuers consented to the entry of a cease-and-desist order and civil money penalty of $41 million.[9]

Conclusion

The recent past has seen the explosive growth of the digital asset markets, with regulators globally seeking to catch up. In the United States, the challenge has been, in the absence of new legislation, to make digital asset transactions fit within existing regulatory schemes. Much initial regulation has been at the state level; most federal financial regulators have initially been attempting to regulate through enforcement. Now, however, there is the prospect of overlapping federal regulation, particularly with respect to stablecoins. The Tether Order comes at a time when media outlets have reported that the U.S. Department of Treasury will be working with U.S. financial regulators to issue a broad report on stablecoins, including how stablecoins should be regulated. And although the CFTC has taken its position on USDT, it is currently still unclear how other U.S. regulators will view stablecoins and other digital assets.

_____________________________

   [1]   In the Matter of Tether Holdings Limited, Tether Operations Limited, Tether Limited, and Tether International Limited, CFTC Docket No. 22-04 (Oct. 15, 2021), available at https://www.cftc.gov/media/6646/enftetherholdingsorder101521/download.

   [2]   Gary Gensler, SEC Chair, “Remarks Before the Aspen Security Forum” (August 3, 2021).

   [3]   See, e.g., Michelle Price, “Explainer:  How the U.S. Regulators Are Cracking Down on Cryptocurrencies,” Reuters, September 24, 2021.

   [4]   7 U.S.C. § 9(1).

   [5]   17 C.F.R. § 180.1(a)(2).

   [6]   CFTC, Final Rules: Prohibition on the Employment, or Attempted Employment, of Manipulative and Deceptive Devices and Prohibition on Price Manipulation, 76 Fed. Reg. 41,398, 41,401 (July 14, 2011).

   [7]   See, e.g., In re Coinflip, Inc., CFTC No. 15-29, 2015 WL 5535736, at * 2 (Sept. 17, 2015) (stating that bitcoin is properly defined as a commodity within the meaning of the CEA).

   [8]   Tether Order at 8-9.

   [9]   Also on October 15, the CFTC entered into a consent order with Bitfinex, a leading digital currency exchange that has many management and operational interlocks with the USD Tether issuers, for allegedly permitting U.S. customers that were not eligible contract participants to engage in leveraged, margined or financed commodity transactions that were not carried out on a designated contract market (i.e., a CFTC registered futures exchange) in violation of the CEA’s requirements, and acting as a futures commission merchant (FCM) without being registered with the CFTC as such. The CFTC further asserted that Bitfinex had violated a 2016 CFTC order that had commanded it to cease-and-desist from such activity.  Without admitting or denying the CFTC’s findings and conclusions, Bitfinex consented to the entry of the new cease-and-desist order and a $1 million fine. See In the Matter of iFinex Inc., BFXNA Inc.,  and BFXWW Inc., CFTC Docket No. 22-05 (Oct. 15, 2021), available at https://www.cftc.gov/media/6651/enfbfxnaincorder101521/download.

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The following Gibson Dunn lawyers assisted in preparing this client update: Arthur Long and Jeffrey Steiner.

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, the author, or any of the following members of the firm’s Financial Institutions practice group:

Matthew L. Biben – New York (+1 212-351-6300, mbiben@gibsondunn.com)
Michael D. Bopp – Washington, D.C. (+1 202-955-8256, mbopp@gibsondunn.com)
Stephanie Brooker – Washington, D.C. (+1 202-887-3502, sbrooker@gibsondunn.com)
M. Kendall Day – Washington, D.C. (+1 202-955-8220, kday@gibsondunn.com)
Mylan L. Denerstein – New York (+1 212-351- 3850, mdenerstein@gibsondunn.com)
William R. Hallatt – Hong Kong (+852 2214 3836, whallatt@gibsondunn.com)
Michelle M. Kirschner – London (+44 (0) 20 7071 4212, mkirschner@gibsondunn.com)
Arthur S. Long – New York (+1 212-351-2426, along@gibsondunn.com)
Matthew Nunan – London (+44 (0) 20 7071 4201, mnunan@gibsondunn.com)
Jeffrey L. Steiner – Washington, D.C. (+1 202-887-3632, jsteiner@gibsondunn.com)

© 2021 Gibson, Dunn & Crutcher LLP

Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

On September 10, 2021, the Democratic majority of the United States House Committee on Ways and Means (“House Ways and Means Committee”) released draft legislation of its contributions to the Build Back Better Act (the “Legislative Recommendations”), designed to be enacted through the budget reconciliation process. On September 15, 2021, following close to 40 hours of debate over the course of four days, the House Ways and Means Committee advanced the Legislative Recommendations. Ten days later, on September 25, 2021, the House Budget Committee advanced the Legislative Recommendations. If enacted into law, the Legislative Recommendations would substantially extend and expand available clean energy tax incentives, helping to bring President Biden’s campaign promise to “reform and extend” these incentives to “unleash a clean energy revolution in America” closer to fruition.[1]

The Legislative Recommendations materially extend existing incentives, including the investment tax credit (“ITC”), the production tax credit (“PTC”), and the carbon capture and sequestration credit, including incentives that had begun (or were about to begin) to expire or phase down. These extensions will make the incentives available well into the next decade, while at the same time imposing new requirements designed to enhance the benefit to U.S. workers from spending on clean energy infrastructure (including prevailing wage and apprenticeship requirements). The Legislative Recommendations also expand the scope and availability of incentives, including making the ITC available for standalone energy storage and energy transmission assets and introducing new incentives for the production of clean hydrogen.

Perhaps most importantly, investors would have the option to elect to treat the applicable credit as a payment made against the tax imposed by subtitle A (the so-called “direct pay” option), and this option would be available for classes of investors (i.e., tax-exempt entities, taxpayers with substantial losses, and certain governmental entities) that have historically not been able to benefit directly from tax credits. If enacted, the “direct pay” option may make it easier for taxpayers without substantial taxable income (and an attendant need for tax credits) to make equity investments in clean energy projects.

In addition, the Legislative Recommendations propose to make income generated by various types of renewable energy assets (as well as facilities that install sufficient carbon capture equipment) “qualifying income” for “publicly traded partnerships,” opening up another source of capital for the development of clean energy projects.

Under budget reconciliation, Democrats only need 50 votes in the Senate to pass legislation through an equally divided Senate (the Vice President breaks the tie). But Democratic progressives and moderates disagree on the price tag and the scope of the Build Back Better Act. For the Legislative Recommendations to become law, they will need to pass muster with key Democratic moderates in both the House and Senate. If the Legislative Recommendations are enacted into law, we would expect that they will spur significant new investment in clean energy projects, providing increased certainty in an area of the law that has historically been subject to year-end stopgap extensions and a complicated patchwork of ever-changing and unpredictable qualification rules.

Direct Pay

The PTC, ITC, and section 45Q[2] carbon capture and sequestration credits (each of which is discussed in greater detail in a later subsection) have historically been non-refundable credits, meaning that substantial taxable income was generally a necessary prerequisite to benefit from the incentives.[3] The Legislative Recommendations would take steps to change that through a “direct pay” option, effective for projects whose placed in service date is after December 31, 2021. Under the “direct pay” option, an owner of a clean energy facility that would otherwise qualify for certain credits (including the ITC (including for transmission property), the PTC, the carbon capture and sequestration credit, and the advanced energy project credit) is authorized to make an irrevocable “direct pay” election. If the owner makes such an election, the owner will be treated as having paid tax in an amount equal to the credit amount (such that the investor is entitled to an overpayment or refund to the extent the deemed payment exceeds its tax liability).[4] In addition, partnerships and S corporations (i.e., entities not subject to entity-level income tax) are eligible to receive “direct pay” payments. The Legislative Recommendations provide that such payments will be made directly to the partnership or S corporation (rather than to their partners or shareholders).

The irrevocable (it appears, solely for a particular taxpayer with respect to a particular year) “direct pay” election would be required to be made no later than the due date (including extensions) for the return of tax for the taxable year for which the applicable credit is determined. Under the Legislative Recommendations, it appears (but is not entirely clear) that direct pay elections will not be able to be made on a facility-by-facility basis. The Legislative Recommendations provide even less clarity as to whether taxpayers will be able to make elections on a credit-by-credit basis. Further legislative clarity on these points would be useful, although the Secretary of the Treasury is legislatively authorized to address the time and manner for making the direct pay election and so may have some flexibility to provide clarification through regulatory guidance.

In addition to making renewable energy incentives available to entities lacking sufficient taxable income, the “direct pay” option would make such incentives available to various classes of investors that have historically not benefited directly from them, including state and local governments, Native American tribal governments, and tax-exempt organizations.

The “direct pay” option would, however, be subject to various restrictions and limitations. Perhaps most notable is the “domestic content” requirement, which focuses on whether the facility is composed of iron, steel or manufactured products that were produced in the United States, where a “manufactured product” is deemed manufactured in the United States if not less than 55 percent of the total cost of the components are attributable to components mined, produced or manufactured in the United States (the “Domestic Content Requirement”). This requirement would phase in over time, first applying to facilities whose construction begins in 2024 (which would be subject to a ten percent haircut if the Domestic Content Requirement was not met), gradually ramping up in 2025 (projects starting construction in 2025 would be subject to a 15 percent haircut), and then becoming subject to a cliff in 2026 (when projects must meet the Domestic Content Requirement or face the complete loss of any “direct pay” benefit). While there is a long onramp to applicability of the Domestic Content Requirement and the Secretary of the Treasury is permitted to waive the “domestic manufacture” requirement for projects the construction of which starts later in the decade, these new requirements could become a material impediment to the utility of the “direct pay” option.

In addition, the combination of the irrevocability of the “direct pay” election and the Domestic Content Requirement may deter taxpayers from the “direct pay” option. If a taxpayer elects into the “direct pay” option but fails to satisfy the Domestic Content Requirements, such taxpayer would not only be ineligible to receive the full amount of the “direct payment,” but would also apparently lose its ability to claim any alternative tax credit (e.g., the PTC, ITC, and section 45Q credits), at least for the taxable year for which the election was made.[5] Had the taxpayer not made the “direct pay” election, such credits would, at the very least, have been available to the taxpayer.

Moreover, the Legislative Recommendations clarify that direct payments elected with respect to ITCs will be subject to recapture and basis adjustment rules similar to the existing ITC rules.

In general, the “direct pay” option would be expected to reduce the need for tax-equity investors (i.e., investors with significant taxable income that have the ability to utilize tax credits) to partner with developers to monetize clean energy tax credits. But tax-equity financing would still yield benefits because a tax-equity investor may be willing to monetize not just the federal clean energy tax incentives produced by a renewable energy project, but also the future cash flows, depreciation deductions, and other state-level incentives resulting from that project. Tax-equity financing could also provide timing benefits, as tax-equity investors generally fund before (in the case of the ITC) or shortly after (in the case of the PTC) a project is placed in service, whereas the “direct pay” payment would be a refund of a tax deemed paid, with the tax not being deemed paid until the later of the due date of the tax return for the taxable year to which the “direct pay” payment relates or the date on which the return is actually filed, resulting in a delay of cash payment to sponsors until such time. Moreover, tax-equity investors can also effectively offset tax credits received under the ITC and PTC regimes against estimated tax payments, so the “direct pay” option may result in the loss of an additional timing benefit available to some taxpayers.

In addition, the Legislative Recommendations provide that the Secretary of the Treasury may require such information or registration as the Secretary determines is necessary or appropriate for purposes of preventing duplication, fraud, improper payments, or excessive payments under these provisions. Drawing on regulatory authority to prevent any “direct payment” from exceeding the credit to which a taxpayer would otherwise be entitled, we would anticipate that the Secretary would clarify that other limitations imposed under the U.S. Internal Revenue Code, as amended (the “Code”), and any applicable Treasury Regulations (including, for example, the limitation in section 38(c) on the portion of a taxpayer’s tax liability that can be reduced through the general business credit (which includes the energy credit)) to apply to direct payments. And, if the Secretary determines that there has been an excessive payment, a penalty is imposed (in an amount equal to the sum of the excessive payment plus 20 percent).

Furthermore, given the expected size of some of the refund claims contemplated by the “direct pay” arrangement, it is uncertain whether or not such claims may in the future be subjected to mandatory review by the Congressional Joint Committee on Taxation (the “JCT”). Treasury Regulations exclude refunds of overpayments (such as estimated tax payments and withholdings reported on original returns) from JCT review. The Internal Revenue Service has interpreted the applicable Treasury Regulations to exclude all refundable credits reported on original returns as well, but historically there have been few, if any, refundable business credits. The U.S. Treasury Inspector General for Tax Administration has prepared a report that criticizes the existing Treasury Regulations on this matter, which notes that the JCT should review more original returns. Making PTCs and ITCs refundable and adding the “direct pay” option could significantly increase the pressure to move that issue forward and require JCT review of original returns claiming PTC and ITC refund claims and claims under the “direct pay” option.

Expansion and Extension of Renewable Electricity Production Credit (PTC) under Section 45

The PTC available to taxpayers under section 45 of the Code applies to “qualified facilities” (as currently defined in section 45 of the Code) at a specified percentage of certain credit amounts (as adjusted by the “inflation adjustment factor” in section 45(e)(2), the “PTC Credit Amounts”).

Under the current PTC regime, the full PTC is only available for projects the construction of which began by the end of 2016 (with the PTC phasing down for projects on which construction began in 2017 or later).

The Legislative Recommendations would extend the duration of the PTC for more than a decade, and expand the scope and amount of the credit in various respects, but would also impose new requirements that need to be satisfied in order to qualify for the credit.

In terms of the duration of the credit, for projects beginning construction between January 1, 2022 and December 31, 2031 (and for projects the construction of which began in 2020 or 2021, but only if those facilities are placed in service in 2022 or later), the credit would be available at 100 percent of the PTC Credit Amounts. This 100 percent credit would be a boon for taxpayers relative to the current regime, given that the PTC was going to be completely unavailable to projects beginning construction in 2022 or later, and (as noted) projects the construction of which began in 2017 or later were subject to phaseouts (e.g., a 40 percent reduction for a 2021 start of construction project). Importantly, however, the Legislative Recommendations do not extend the full PTC to projects the construction of which began prior to 2020. While this may be a drafting glitch, if the Legislative Recommendations are enacted in their current form, we would expect that taxpayers who already began construction on a project (under the flexible regulatory “begun construction” guidance) would have incentives to try to take available steps to abandon or otherwise recommence the work that was done previously on such project, and in light of the placed in service rule for 2020 or 2021 start of construction projects, we would expect taxpayers to delay placing in service such projects until 2022 where feasible to benefit from being able to claim the credit at a 100 percent rate.

Under the Legislative Recommendations, the PTC would be subject to a gradual phaseout beginning more than a decade in the future, with a 20 percent phaseout for projects beginning construction during the year 2032, 40 percent for projects beginning construction during 2033, and a complete phaseout for projects beginning construction after December 31, 2033.

Beyond its temporal expansion, the Legislative Recommendations would also expand the scope of projects to which the PTC is available. The Legislative Recommendations permit credits for electricity generated by solar power for the first time in nearly two decades, at a PTC Credit Amount of 2.5 cents per kilowatt hour for facilities placed in service after December 31, 2021 and the construction of which begins before January 1, 2034. In addition, the Legislative Recommendations contain proposed section 45W, which creates a PTC for zero-emission nuclear power equal to the amount by which (1) the product of (a) 1.5 cents multiplied by (b) the kilowatt hours produced by the taxpayer at a qualified nuclear power facility and sold by the taxpayer to an unrelated person during the taxable year, exceeds (2) the “reduction amount” for such taxable year. The “reduction amount” is equal to the lesser of subparagraph (1) above, or 80 percent of the excess of (A) the gross receipts from any electricity produced by such qualified nuclear power facility and sold to an unrelated person during the taxable year, over (B) the product of (i) 2.5 cents and (ii) the figure calculated in subparagraph (b) above.

As part of an effort to incentivize domestic manufacturing, the Legislative Recommendations would create a bonus for certain projects, increasing the applicable PTC Credit Amount by ten percent for any qualified facility that satisfies the Domestic Content Requirement. This incentive approach deviates from the “direct pay” rules (which, as described previously, penalize taxpayers who place in service a facility that would otherwise be eligible for PTCs, make a “direct pay” election, but fail to satisfy the Domestic Content Requirement).

As noted, however, in addition to expanding the PTC in various respects, the Legislative Recommendations would impose new requirements to qualify for the full PTC, subjecting projects that do not satisfy certain prevailing wage and apprenticeship requirements to a substantial 80 percent reduction to the otherwise available PTC Credit Amounts. Such requirements would apply broadly, to any project with a maximum net output of at least one megawatt, the construction of which begins on or after the date the Legislative Recommendations are signed into law.

The proposed wage requirements (the “Prevailing Wage Requirements”) in the Legislative Recommendations would require the taxpayer to provide written certification to the government that all laborers and mechanics employed in the construction (and, for the ten-year period beginning on the date of service, alteration or repair) of a qualified facility are paid wages at rates not less than the prevailing rates on projects of similar character in the locality, as determined by the Secretary of Labor. If a taxpayer underpays its employees and its available PTC is slashed (to 20 percent of the otherwise available credit amount) as a result, it could cure such violation by both (1) compensating each of its employees that worked on the project in an amount equal to the sum of (a) the difference between the actual wages paid during the applicable period and the amount of wages required to be paid under the Legislative Recommendations, and (b) applicable interest, and (2) paying a penalty to the U.S. government of $5,000 for each underpaid employee. The Legislative Recommendations leave unanswered practical questions about how or when the determination as to whether the Prevailing Wage Requirements has been satisfied would be made. Assuming such determination is to be made on audit, that audit would likely occur several years after the relevant credit had been claimed, requiring taxpayers (and contractors who work for them) to provide service providers with additional compensation at that time, even though certain service providers might no longer be affiliated in any way with the project (or the owner of the project that is claiming the credit).

The proposed apprenticeship requirement in the Legislative Recommendations (the “Apprenticeship Requirement,” and, together with the Prevailing Wage Requirements, the “Prevailing Wage and Apprenticeship Requirements”) would require the taxpayer to ensure that an “applicable percentage” of the total labor hours (which excludes hours worked by foremen, superintendents, owners, or executives) connected with the construction (and, for the ten-year period beginning on the date of service, alteration or repairs) on a project be performed by “qualified apprentices.” The term “qualified apprentice” means an individual who is (1) an employee of the project’s contractor or subcontractor, and (2) participating in an apprenticeship program registered under the National Apprenticeship Act. For projects beginning construction before January 1, 2023, five percent of the total labor hours must be performed by qualified apprentices. For projects beginning construction during calendar year 2023, ten percent of the total labor hours must be performed by qualified apprentices, and for projects beginning construction after December 31, 2023, 15 percent of the total labor hours must be performed by qualified apprentices. Each contractor or subcontractor who employs four or more individuals to perform construction, alteration, or repair work on a project must employ at least one qualified apprentice to assist in the work. The taxpayer may be excused for failing to satisfy these requirements if (1) the taxpayer can demonstrate that there is a dearth of qualified apprentices available for employment in the geographic area of the project, and (2) the taxpayer makes a good faith effort to comply with the Apprenticeship Requirement, including by requesting qualified apprentices from a registered apprenticeship program (even if such request is denied, the taxpayer will be excused as long as the denial is not the result of the refusal by contractors or subcontractors involved in the project to comply with the standards of a registered apprenticeship program).

Because projects whose construction begins prior to the enactment of the Legislative Recommendations would be exempted from the proposed Prevailing Wage and Apprenticeship Requirements, we can expect to see taxpayers seek to “grandfather” in projects by beginning construction before these requirements are enacted. For projects seeking to qualify for the full PTC, taxpayers will need timely and clear guidance from the government about how to meet the requirements (e.g., clear guidance from the Secretary of Labor about how to determine the prevailing wages in a particular location). While the Prevailing Wage Requirement can generally be satisfied through the mere payment of additional wages (and so should be relatively easy to satisfy), the Apprenticeship Requirement will force taxpayers to closely monitor (and force their contractors and subcontractors to closely monitor) who performs construction, alterations, and repairs on projects, likely necessitating new certification processes, particularly because the Legislative Recommendations do not have a mechanism to “cure” failures to comply with the requirement through the payment of a penalty. In terms of tax-equity financings, we would expect that tax-equity investors will seek to push noncompliance risk onto project sponsors, particularly the risk that activities that occur following funding (such as repairs) might jeopardize PTC qualification.

Expansion and Extension of Energy Credit (ITC) under Section 48

The ITC available under section 48 of the Code would be significantly extended under the Legislative Recommendations. In particular, a solar facility on which construction began prior to 2032 (and which is placed in service after 2022 but before 2036) would be eligible for the ITC without phase-down if such solar facility meets the continuity of construction requirements issued by the IRS. Without the extension under the Legislative Recommendations, the ITC would continue to phase down through the end of 2023, and for projects beginning construction in 2024 would only be available at a modest ten percent rate.

It is worth noting that the Legislative Recommendations would not increase the ITC for solar projects for which construction began after 2019 if such projects are placed in service before the end of 2021. Beginning with projects placed in service in 2022, however, certain solar projects on which construction begins prior to 2032 would be eligible for the ITC at the rate of 30 percent—which is the highest amount of the ITC for which solar projects have been eligible in recent years. Thereafter, the credit would begin to step down, with the ITC being equal to 26 percent for projects beginning construction in 2032, and 22 percent for solar projects beginning construction in 2033. In addition, the Legislative Recommendations push out the statutory deadline (December 31, 2036) by which solar projects must be placed in service to qualify for an ITC greater than ten percent. The structure of the Legislative Recommendations, as it pertains to solar projects, would seem to incentivize sponsors that are developing solar projects that are nearly complete and operational to delay placing these projects into service until after the end of this year. All else being equal (and assuming enactment), an owner of a project eligible for the ITC could receive (at least) an additional four percentage points in ITCs if the owner (or sponsor) waited to place the solar project in service until after the end of this year.

The Legislative Recommendations also expand the list of renewable energy projects eligible for the ITC in various respects (including to “qualified biogas property” and “microgrid controllers”). Most notable, perhaps, is the expansion of the ITC to “energy storage technology” which is equipment, other than equipment primarily used in the transportation of goods or individuals and not for the production of electricity, that uses batteries or certain other technologies to store energy for conversion to electricity and that has capacity of at least five kilowatt hours. Equipment that would meet these requirements, but has a capacity of less than five kilowatt hours, can qualify for this credit if such equipment is modified or refitted such that it has at least five kilowatt hours of capacity. However, no portion of the tax basis that was part of such equipment before its modification can be taken into account in calculating the ITC after modification. The expansion of the ITC to standalone batteries could be of key importance to the renewable energy industry. Under current law, only certain storage technologies that are directly tied to facilities that generate electricity and that are otherwise eligible to claim the ITC (separate from such storage technologies) are ITC eligible. Not only would the expansion of the ITC to these standalone facilities spur development of such technologies and infrastructure, but it would also support the build-out of what many industry observers have described as a missing piece of the puzzle for the renewable energy space—sufficient battery storage to build reserves of renewably generated electricity for use during the periods of time when renewable facilities are not generating sufficient energy for public consumption (e.g., storage of solar energy generated during the day for use during nights and evenings).

As with other portions of the Legislative Recommendations, for projects with a maximum net output of at least one megawatt, any credit claimed under section 48 would only be eligible for the full rate if the Prevailing Wage and Apprenticeship Requirements are satisfied. If such requirements are not satisfied, or otherwise cured, then any credit claimed under section 48 could be claimed at a rate equal to only 20 percent of the otherwise available credit amount. These requirements are similar to the requirements that apply to facilities seeking to claim PTCs, although the Prevailing Wage and Apprenticeship Requirements only apply for five years after a facility is placed in service (rather than for ten years). See the discussion of these requirements above under “Expansion and Extension of Renewable Electricity Production Credit (PTC) under Section 45.” The exception from the Prevailing Wage and Apprenticeship Requirements for projects with a maximum net output of less than one megawatt would be particularly helpful to the residential rooftop solar industry.

With respect to an energy property that satisfies the Domestic Content Requirement, such energy property is eligible for a step-up—or bonus—in the amount of ITC that can be claimed in respect of that project. For a project that meets the Domestic Content Requirement but that (1) has a maximum net output of one megawatt or more, and (2) does not meet the Prevailing Wage and Apprenticeship Requirements, that project is eligible for a two percentage point increase in the amount of ITC that can be claimed. For projects that meet the Domestic Content Requirement and that either (1) have a maximum net output of less than one megawatt or (2) satisfy the Prevailing Wage and Apprenticeship Requirements, then such a project is eligible for a ten percentage point increase in the amount of ITC that can be claimed.

Certain solar facilities with a nameplate capacity of less than five megawatts are eligible for a ten percentage point step-up in the ITC if the facility is located in a “low-income community” (defined by cross-reference to the new markets tax credit rules in section 45D of the Code). If a solar facility with a nameplate capacity of less than five megawatts is part of a “qualified low-income residential building project or a qualified low-income economic benefit project,” then it is eligible for a step-up in the ITC equal to 20 percentage points.[6] The property with respect to which this step-up in ITC can be claimed includes certain energy storage property installed in connection with such solar facility and the amount of expenditures incurred for “qualified interconnection property” (as defined in the Legislative Recommendations). In sum, under the Legislative Recommendations, certain small scale solar facilities that are installed as part of a “qualified low-income residential building project” and that meet the Domestic Content Requirements could be eligible for the ITC at an amount equal to 60 percent of the basis of the energy property placed in service in connection with that project.

Qualifying Electric Transmission Property (Section 48D)

In addition to expanding the ITC (as described above), the Legislative Recommendations provide for a new tax credit (similar to the ITC) claimable in respect of “qualifying electric transmission property” for an amount equal to 30 percent of the basis of the applicable property. “Qualifying electric transmission property” is generally defined to include an electric transmission line that is capable of transmitting electricity at a voltage of not less than 275 kilovolts that has a transmission capacity of not less than 500 megawatts and any property that, with respect to a credit-eligible electric transmission line, is necessary for the operation of such electric transmission line (or is otherwise listed as “transmission plant” in the Uniform System of Accounts for the Federal Energy Regulatory Commission).

A qualifying electric transmission line can be a replacement to, or upgrade to, an existing electric transmission line, but only if the transmission capacity of such electric transmission line, as upgraded, increases to an amount equal to the existing capacity of such transmission line plus 500 megawatts. The basis allocable to such existing transmission line also would not be eligible for any credit under section 48D. This new section 48D credit is not claimable with respect to property on which construction begins prior to January 1, 2022 or if a state or political subdivision thereof, any agency or instrumentality of the United States, a public service or public utility commission, or an electric cooperative has previously (before the date when the Legislative Recommendations are enacted) “selected for cost allocation such property for cost recovery.”

As with other portions of the Legislative Recommendations, any credit claimed under section 48D would only be eligible for the full rate if the Prevailing Wage and Apprenticeship Requirements are satisfied, although these requirements will not apply to projects the construction of which begins before the Legislative Recommendations are enacted. Depending on when the Legislative Recommendations might be enacted, however, there may be little opportunity to plan around the Prevailing Wage and Apprenticeship Requirements, given that the credit does not apply to property the construction of which begins before January 1, 2022. If such requirements are not satisfied, or otherwise cured, then any credit claimed under section 48D could be claimed at a rate equal to only 20 percent of the full credit amount.

With respect to an energy project that is composed of “steel, iron, or manufactured products which were produced in the United States” (i.e., that satisfies the Domestic Content Requirement), such energy property is eligible for a step-up—or bonus—in the amount of ITC that can be claimed in respect of that project. If a transmission project satisfies the Domestic Content Requirement but does not satisfy the Prevailing Wage and Apprenticeship Requirements, then that project is eligible for a two percentage point increase in the amount of ITC that can be claimed. Those projects that satisfy the Domestic Content Requirement and meet the Prevailing Wage and Apprenticeship Requirements are eligible for a ten percentage point increase in the amount of ITC that can be claimed.[7]

In general, any credit claimed under section 48D would have to be claimed in respect of property that is placed in service prior to January 1, 2032.

Expansion and Extension of Credit for Carbon Oxide Sequestration under Section 45Q

The Legislative Recommendations extend the date by which construction must have begun on a “qualified facility” for purposes of section 45Q from January 1, 2026 to January 1, 2032. The Legislative Recommendations leave many aspects of the tax credit rules for facilities that capture carbon oxide intact, but also makes some significant expansions and revisions to the rules.

The Legislative Recommendations would accelerate certain scheduled section 45Q rate increases (to be effective in 2022, rather than 2026 under current law): to $35 per metric ton, for qualified carbon oxide captured and used in an enhanced oil or natural gas recovery (or other allowable uses), and to $50 per metric ton for qualified carbon oxide captured and disposed of in secured geological storage.[8] For direct air capture facilities, each metric ton of qualified carbon oxide that is captured and disposed of in a geological storage would be eligible for a $180 credit, and each metric ton of carbon oxide that is captured and used in an enhanced oil or natural gas recovery (or another allowable use) would be eligible for a $130 credit.[9]

Under the Legislative Recommendations, the “qualified facilities” eligible for these expanded credits include:

1. “direct air capture facilities” that capture 1,000 metric tons or more of qualified carbon oxide during a taxable year (under current law, the applicable threshold is not less than 100,000 metric tons),[10]
2. electricity generating facilities that capture 18,750 metric tons or more of qualified carbon oxide during the taxable year and at least 75 percent of the carbon dioxide from such facilities would otherwise be released into the atmosphere by such facility during such taxable year (under current law, the applicable threshold is not less than 500,000 metric tons, but there is no minimum percentage capture requirement under current law), and
3. any other facilities that capture 12,500 metric tons or more of qualified carbon oxide during the taxable year and at least 50 percent of the carbon oxide from such facilities would otherwise be released into the atmosphere during such taxable year (the facilities described in this paragraph, “Industrial Facilities”) (under current law, the applicable threshold is not less than 25,000 metric tons, but there is no minimum percentage capture requirement under applicable law).

As with other portions of the Legislative Recommendations, any credit claimed under section 45Q would only be creditable in full if the Prevailing Wage and Apprenticeship Requirements are satisfied.[11] If such requirements are not satisfied, or otherwise cured, then any credit claimed under section 45Q could be claimed at a rate equal to 20 percent of the full credit amount.

Modification of Special Rules for Offshore Wind Projects

The Legislative Recommendations modify special rules that excepted certain offshore wind projects from ITC phase-outs under current law in light of such projects’ significantly longer development timelines. Under the Legislative Recommendations, offshore wind projects are generally subjected to the same extended construction deadlines as onshore wind projects. The Legislative Recommendations make clear, however, that the 100 percent ITC remains available in respect of certain offshore wind projects placed in service before 2022.[12]

Going forward, the Legislative Recommendations would revert to prior law regarding the geographic boundaries for offshore wind projects eligible for the ITC. Under current law (which applies to projects that begin construction before 2022), for a project to be PTC eligible, it must be located within the United States or in a possession, which is defined for PTC purposes to include an exclusive economic zone (which generally extends as much as 200 nautical miles from a territorial sea baseline). For the ITC, on the other hand (which, under current law, is available for offshore wind projects that begin construction through 2025) the facility must be “located in the inland navigable waters of the United States or in the coastal waters of the United States.” The narrower geographic ITC boundary for offshore wind projects would only apply to projects that were placed in service before 2022.

Publicly Traded Partnerships

In general, under existing law, a “publicity traded partnership” (which is any partnership if the interests in such partnership are traded on an established securities market or readily tradable on a secondary market (or the substantial equivalent thereof)) is taxed as a corporation (and therefore subject to entity-level U.S. federal income tax) unless an exception applies. The primary exception to these rules is for partnerships that earn 90 percent or more “qualifying income” (which includes a variety of types of passive income as well as income and gains from exploration, development, mining, production, processing, refining, transportation, and marketing of any mineral or natural resource). Historically, the income generated by a renewable energy facility would not have been “qualifying income.” Under the Legislative Recommendations, however, the definition of “qualifying income” would be revised to include various types of income derived from clean energy projects (including PTC and ITC eligible property and income or gain from a “qualified facility” under section 45Q(d)).

This aspect of the Legislative Recommendations, if enacted, would open up a potential source of new capital for clean energy projects, making it possible for investors in the public markets to more easily participate (through a flow-through vehicle) in such projects. The impact of this proposal on traditional tax-equity investors is not entirely clear. On the one hand, “publicly traded partnerships” could compete against tax-equity investors, reducing returns as additional capital competes for the right to invest in projects. On the other hand, publicly traded partnerships would not be well situated to directly capture the key benefits generated by renewable energy projects—tax credits and depreciation deductions—because deductions and credits attributable to an investment in a renewable energy project would generally pass through to the holders of interests in the partnership, who may or may not be able to effectively monetize those items, although (with respect to the tax credits, but not depreciation deductions) publicly traded partnerships could seek to avail themselves of the “direct pay” election, subject to the limitations and restrictions on “direct pay” described previously in this alert, and subject to the limitations described in the next sentence. In addition, certain rules that can reduce or eliminate the availability of the ITC or accelerated depreciation (including the tax-exempt use property rules) based on tax characteristics of the owners of a partnership could make it challenging for publicly traded partnerships to partner with tax-equity investors in a way that would allow those investors to effectively monetize tax benefits from a clean energy project.

Clean Hydrogen Incentives

The Legislative Recommendations also propose to add section 45X, which would provide a tax credit for the production of clean hydrogen. This new credit would be available (subject to the Prevailing Wage and Apprenticeship Requirements[13]) for clean hydrogen projects the construction of which begins before January 1, 2029 that are placed in service after December 31, 2021, and, with respect to those projects, the credit would be claimable for the ten-year period beginning on the placed in service date of the clean hydrogen project. This credit is not available for clean hydrogen produced at a facility that includes property for which a section 45Q carbon oxide sequestration credit is allowed (i.e., “blue” hydrogen facilities taking advantage of the section 45Q credit would not also be entitled to the section 45X credit).

The amount of the credit is equal to the product of (1) the number of kilograms of “qualified clean hydrogen” (hydrogen that is produced through a process that achieves a percentage reduction in lifecycle greenhouse gas emissions of at least 40 percent as compared to hydrogen produced by steam-methane reforming of non-renewable natural gas) produced during the applicable taxable year, and (2) the “applicable amount” of $3.00 (adjusted for inflation) multiplied by the “applicable percentage.” The “applicable percentage” is a percentage available to taxpayers based on the percentage reduction in “lifecycle greenhouse gas emissions” (as defined in the Clean Air Act) as compared to hydrogen produced by steam-methane reforming. The “applicable percentage” can be: (a) 20 percent (for a less than 75 percent reduction), (b) 25 percent (for a reduction greater than or equal to 75 percent and less than 85 percent), (c) 34 percent (for a reduction greater than or equal to 85 percent and less than 95 percent), and (d) 100 percent (for a 95 percent or greater reduction). In other words, the higher the reduction, the higher the applicable percentage, and therefore, the larger the available tax credit eligible to be claimed under section 45X would be.

Tax Credits and BEAT

Tax credits are only useful to the extent they are able to actually reduce cash taxes payable. Under the Legislative Recommendations, the general business credit (which includes the PTC, the ITC, and section 45Q credits and would include the proposed section 48D and section 45X credits) would be fully creditable against BEAT liability. Under current law, only up to 80 percent of the otherwise-available section 48 ITC and the section 45 PTC (and none of the section 45Q credit) are able to reduce BEAT liability (and then only through 2025, after which the ITC and PTC would also effectively cease to reduce BEAT liability).

This modification to the rules would be expected to make the credit more desirable to tax-equity investors with meaningful potential BEAT liability, particularly if BEAT liability is expanded as has been proposed.

___________________________

    [1]  Democratic National Committee, The Biden Plan To Build A Modern, Sustainable Infrastructure And An Equitable Clean Energy Future, JoeBiden.com (last visited Oct. 13, 2021), https://joebiden.com/clean-energy/.

    [2]  Unless otherwise noted, section references refer to sections of the Internal Revenue Code of 1986, as amended.

    [3]  Substantial taxable income was not, however, needed for developers/owners of certain renewable energy projects to benefit from the “cash grant” program under section 1603 of the American Recovery and Reinvestment Tax Act of 2009.  Under this program, eligible developers/owners of certain renewable energy projects were able to forgo tax credits in lieu of a direct cash payment from the Treasury Department that would defray part of the cost of the project.

    [4]  Curiously, the payment is to be treated as a payment against “the tax imposed by subtitle A,” which includes sections 1 through 1563. Thus, if enacted in its current form, the deemed payment would offset not only income tax liability (imposed under chapter 1 of subtitle A), but also liability for self-employment taxes, the net investment income tax, and various withholding taxes (including liability to remit taxes withheld on various payments to non-U.S. taxpayers). It is possible that the offset was intended be limited to income taxes.

    [5]  As noted, it appears that election is only irrevocable with respect to a particular taxable year. Thus, for credits that accrue over a period of time (e.g., the PTC, which is available over ten years), it appears that taxpayers may be able to toggle between “direct pay” and PTCs from year to year. For facilities that would otherwise seek to claim the ITC, however, a “direct pay” election could completely foreclose the ability to claim that credit (which is a one-time credit, available in the year when a facility is placed in service).

    [6]  A solar facility is part of “qualified low-income residential building project” if (1) the facility is installed on a residential rental building that is part of one of various enumerated legislative programs (e.g., a “covered housing program” defined in section 41411(a) of the Violence Against Women Act of 1994), and (2) the financial benefits of the electricity produced by the facility are equitably allocated among the building occupants. A facility is treated as part of a “qualified low-income economic benefit project” if at least 50 percent of the financial benefits of the electricity produced by the facility are provided to households that meet certain income requirements. For purposes of determining whether there has been a “financial benefit,” the Legislative Recommendations specify that electricity acquired at below-market rates “shall not fail to be taken into account as a financial benefit.”

    [7]  The Prevailing Wage and Apprenticeship Requirements also include an exception (similar to the ITC and PTC) for projects with a maximum net output of less than one megawatt, which in this instance appears to be a drafting glitch. First, it does not comport with the 500 megawatt requirement for “qualifying electric transmission property” described in the Legislative Recommendations. Second, this requirement is not noted in the JCT’s report discussing the Legislative Recommendations, entitled “Description Of The Chairman’s Modification To The Provisions Of The ‘Clean Energy For America Act’.”  Similar issues arise with respect to the Prevailing Wage and Apprenticeship Requirements that would be made applicable to sections 45Q and 45X (discussed below). We would expect that these exceptions may be subsequently revised as the Legislative Recommendations make their way through the legislative process.

    [8]  Credit amounts are subject to inflation adjustments.

    [9]  The Legislative Recommendations expanding section 45Q appear to contain several drafting oversights. The caption for new subparagraph (B) of section 45Q(b)(1), as provided for by section 136107(c) of the Legislative Recommendations, describes a “Special Rule for Direct Air Capture Facilities” but then, by its terms, would only apply to those facilities described in section 45Q(d)(2)(C), which (as amended by the Legislative Recommendations) only pertains to Industrial Facilities and not the “direct air capture facilities” that would be described in section 45Q(d)(2)(A). We note that section 136107(e)(1)(C) of the Legislative Recommendations would also revise section 45Q(b)(1)(B) without coordination with the changes proposed by section 136107(c). Also, the “direct pay” rules for a partnership or S corporation seeking direct payments for section 45Q credits would require the qualified facility be “held” by the partnership or S corporation.

    [10]  Note that a “direct air capture facility” is any facility that captures carbon dioxide, and the eligibility for such a “direct air capture facility” for the enhanced credit under section 45Q is calculated on the basis of the number of metric tons of “qualified carbon oxide” captured. However, with respect to a “direct air capture facility,” “qualified carbon oxide” only includes, for purposes of section 45Q, carbon dioxide (1) that is captured directly from the ambient air, and (2) that is measured at the source of capture and verified at the point of disposal, injection, or utilization. As a result, and assuming that legislators clarify that a “direct air capture facility” is eligible for the expanded credit under section 45Q, any “direct air capture facility” can earn the expanded tax credits under the Legislative Recommendations only if such facility captures 1,000 metric tons or more of carbon dioxide during the taxable year, and meets certain other requirements.

    [11]  In the Legislative Recommendations, the Prevailing Wage and Apprenticeship Requirements for section 45Q contain an exception for a qualified facility with a maximum net output of less than one megawatt, which (similar to the issue in proposed sections 48D and 45X) may be a drafting glitch.

    [12]  To date, there are only two operating offshore wind projects in the United States, although a third project is reportedly slated for construction.

    [13]  In the Legislative Recommendations, the Prevailing Wage and Apprenticeship Requirements for section 45X contain an exception for a project with a maximum net output of less than one megawatt, which (similar to the issue in proposed sections 45Q and 48D) may be a drafting glitch.

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This alert was prepared by Matt Donnelly, Michael Desmond, Roscoe Jones, Jr., Eric Sloan, Mike Cannon, Josiah Bethards, and Laura Pond.

Gibson Dunn 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, any member of the firm’s Tax, Public Policy, or Power and Renewables practice groups, or any of the following:

Tax Group:
Matt Donnelly – Washington, D.C. (+1 202-887-3567, mjdonnelly@gibsondunn.com)
David Sinak – Dallas (+1 214-698-3107, dsinak@gibsondunn.com)
Michael Q. Cannon – Dallas (+1 214-698-3232, mcannon@gibsondunn.com)
Josiah Bethards – Dallas (+1 214-698-3354, jbethards@gibsondunn.com)

Public Policy Group:
Michael D. Bopp – Washington, D.C. (+1 202-955-8256, mbopp@gibsondunn.com)
Roscoe Jones, Jr. – Washington, D.C. (+1 202-887-3530, rjones@gibsondunn.com)

Power and Renewables Group:
Nicholas H. Politan, Jr. – New York (+1 212-351-2616, npolitan@gibsondunn.com)
Gerald P. Farano – Denver (+1 303-298-5732, jfarano@gibsondunn.com)

© 2021 Gibson, Dunn & Crutcher LLP

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Over the past few years we have observed a trend in companies seeking to outsource (and monetize) certain core, best-in-class processes. These transactions, dubbed “lift-outs”, include examples such as insurance companies lifting-out their insurance claims processing capabilities, medical device companies lifting-out their medical device manufacturing capabilities, and pharmaceutical companies lifting-out their research and development capabilities.

While the benefits of these transactions are potentially significant, lift-outs are complex and require a broad array of legal disciplines, such as technology, corporate, tax, privacy, real estate, intellectual property, and employment law specialists, often in multiple jurisdictions. They also demand a significant amount of effort and advance planning in order to address issues such as pricing, governance, change management, limits on liability, indemnification obligations, intellectual property rights, termination rights, and exit rights, among others. As a result, successful lift-out transactions require robust legal expertise in order to document and support the long term goals, opportunities and arrangements of the parties.

From a legal perspective, many of the challenges that arise from lift-out transactions stem from the fact that lift-outs are a hybrid of several better known transactions, namely IT outsourcing transactions, business process outsourcing transactions and carve-out divestiture transactions. While lift-outs have elements that on their face look familiar to either an outsourcing attorney or M&A attorney, these elements and issues are often not addressed in a traditional manner. As such, understanding how to address these elements is critical to a successful lift-out transaction. This alert will discuss several of these key elements.

The Business An important aspect of most lift-out transactions is the description of “the business”; in other words, what internal capabilities is the service provider acquiring from the company that will be used to provide services back to the company (and eventually the service provider’s other customers). This is often the most difficult aspect of a lift-out transaction because the internal capabilities being acquired are unlikely to have been operated as a separate business. Moreover, these internal capabilities are rarely even housed within a single legal entity. More often, the personnel, infrastructure and processes that make up these internal capabilities are spread across disparate pieces of a company, multiple entities and     potentially even different business units. Furthermore, the internal capabilities have typically never been commercially exploited and are rarely subject to the types of procedures and performance standards of a commercial offering. As a result, referring to these internal capabilities as “a business” is in name only. For these reasons, typical requirements of an M&A carve-out transaction, such as requiring a financial statement or a sufficiency of assets representation, are often impractical, if not impossible in lift-out transactions; and a significant degree of analysis, both legal and financial, and ultimately negotiation, is required to properly define the internal capabilities being transferred.   Purchase Agreement vs. Services Agreement Another critical aspect of most lift-out transactions is the interplay between the purchase agreement and the outsourcing agreement. Obligations and requirements in one agreement often have a direct impact on the obligations and requirements in the other agreement, and in some instances such obligations and requirements may unwind the parties arrangement in the other agreement. For example, an obligation of the service provider in the outsourcing agreement to indemnify the company for third party infringement claims in connection with the services may be unwound if the company is representing to the service provider in the purchase agreement that the assets being purchased by the service provider do not infringe on a third party’s rights. Moreover, the parties are often focused on the liabilities the service provider is assuming under the purchase agreement, and its ability to recover those liabilities under either the purchase agreement or     the outsourcing agreement. Consider for instance a typical employee-related obligation in a carve-out transaction such as accrued paid time off. Is accrued time off valued as debt, for which the service provider should obtain a purchase price adjustment under the purchase agreement, or is it an ongoing expense that the service provider can seek to recover through its pricing under the outsourcing agreement? Either of these options may make sense depending on the specific lift-out transaction, but the failure to coordinate between the documents as to how this obligation is addressed can lead to an inadvertent benefit to either the service provider or the company. As such, it is critical that attorneys negotiating lift-outs carefully coordinate the negotiations of the obligations and liabilities among the various agreements.   Indemnification/Representation Coverage One of the more complicated areas in a lift-out transaction is the tension between the indemnification provisions in the outsourcing agreement, and how much indemnification and representation coverage the service provider should be provided under the purchase agreement. Often service providers will demand more coverage than usual under a typical carve-out transaction because of the inherent limitations on the service provider under the outsourcing agreement. Moreover, in many lift-out transactions, the outsourcing agreement imposes certain limitations or even prohibitions on who the service provider may provide services to using the purchased capabilities, further limiting the service provider’s upside on the arrangement. Companies on the other hand will demand less coverage than usual     under a typical carve-out transaction due to the fact that they are often selling the internal capabilities at book-value, with little to no premium, or even at a loss. As the company is not making money on the sale of the internal capabilities, and the service provider is not paying for the goodwill or going-concern value of the internal capabilities, the company will often seek to limit its indemnification exposure under the purchase agreement. Achieving the correct balance between the two competing positions is critical to the success of these arrangements. Too one-sided in either direction can achieve the short term goal of a party under the purchase agreement, but can undermine both parties’ long term goals under the outsourcing agreement.   Transitional Services As with most carve-out transactions, the service provider in a lift-out transaction will often need the company to continue to provide the services for a period of time following the closing until the service provider can successfully transition the people, infrastructure and processes to its own systems. However, in a lift-out transaction this standard arrangement for a carve-out transaction can become circular, as under the outsourcing agreement the service provider is providing these same services back to the company. To avoid the situation where the company provides transitional services to the service provider who provides services back to the company, the parties need to tailor the transitional services with the implementation services under the outsourcing agreement. This starts with a careful inventory of all of the various people, infrastructure and processes (including third party services and contracts) that the customer uses to     perform the services. Once the inventory is documented, the parties then need to agree-on a detailed implementation plan for each, person, piece of infrastructure and process that is being transferred to the service provider, as well as identifying any gaps in people, infrastructure and processes that the service provider will need to solution, and the plan for addressing those gaps. The implementation plan should ideally be documented and agreed to in sufficient detail prior to contract signing, or at the latest, prior to closing. Otherwise, even minor discrepancies in the parties’ understanding as to how particular people, infrastructure or processes are transferring (or not) can have significant impacts on the pricing of the outsourcing aspect of the transaction.   The foregoing is a sample of the complex issues that arise in connection with the negotiation and documentation of the purchase aspects of a lift-out transaction. There are similar complex issues that arise in connection with the negotiation and documentations of the outsourcing aspects of the lift out arrangement as follows.   Pricing While lift-outs are driven by a variety of business drivers – such as introducing a change agent, getting access to best-of-breed services, and refocusing on competitive advantages – the pricing of the services back to the customer under the outsourcing agreement is often the most critical consideration. A basic goal of these transactions is for a company to obtain variable pricing for what is otherwise a fixed cost. Moreover, built-in flexibility in the pricing structure is typically a sought after feature of the pricing model under the outsourcing aspect of a lift-out transaction as companies are looking for their service provider to accommodate the inevitable changes that arise in the company’s own product and     service offerings. Given the complexity of these transactions, rarely does the pricing model fit neatly into a typical outsourcing pricing model (e.g., fixed fee, variable unitized fee, or time and materials). Instead, the pricing model under lift-out transactions is often a mix of these various pricing models. Often the pricing model in these transactions must take into account increases in the cost of raw materials, labor and other service inputs, and efficiencies that arise from new technologies and innovations in the processes comprising the internal capabilities transferred to the service provider.   Limits on Liability The liability provisions in typical outsourcing arrangements often involve the most negotiation, and lift-out transactions are no different. However, most companies and service providers will acknowledge that the standard construct whereby the service provider will seek to limit its liability for direct damages to a function of the fees paid by the company under the outsourcing arrangement, and have the company completely waive its right to seek consequential damages, does not work well for lift-out transactions. Especially given the fact that the people, infrastructure and processes used to provide the services came, in large part, from the company. Moreover, given the critical nature of the services provided     by the service provider, rarely are the parties able to agree to a straight-forward liability structure. More often, the liability structure for lift-out transactions is a complex combination of acknowledging that the people, infrastructure and processes were originally the customers, but also recognizing that the service provider will modify, evolve and potentially even replace or sunset these assets over time once in the possession of the service provider, and include numerous separate caps and baskets for certain types of liabilities, and carve-outs to the consequential damages waiver for certain liabilities.   Governance A comprehensive governance process is critical in most outsourcing transactions; and this is equally, if not more, important in a lift-out transaction. The decision making processes under the outsourcing agreement must be efficient and enable the company to respond quickly to market changes, similar to the manner in which the company was able to respond prior to the lift-out. A number of elements often contribute to an efficient and effective governance process. First, the governance model should identify the roles both parties will maintain and describe with as much precision as possible the responsibilities of those roles.     Second, contractually requiring a regular meeting cadence is important. Third, the parties should include an efficient dispute resolution process to address operational issues, before they become impediments to the transaction’s success. By providing a strong governance process upfront and addressing these and other key issues in advance, the parties to a lift-out transaction can provide a mechanism that will allow the parties to resolve future disputes when they do inevitably arise.   Exit Rights Whether due to the arrangement’s natural expiration, poor performance by the service provider, or a change in strategy by the company, exit rights vary dramatically transaction to transaction depending on the type of internal capabilities transferred, and when in the life-cycle of the arrangement the arrangement is terminated. In anticipation of the potential for a termination of the arrangement, the parties should establish in the outsourcing agreement the appropriate distribution of assets, including people, facilities, IP rights and     processes and determine whether the company will have the right to take back any of the capabilities transferred to the service provider under the purchase agreement. In almost all cases, given the complexity of these arrangements and the interdependencies between the services provided by the service provider, and the success of the company’s own business, the parties should provide for a significant transition period in the event the arrangement is terminated for any reason.   Please note that we have only highlighted some of the issues that arise in connection with these complex transactions. Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding these transactions. We have a team of experienced partners across the U.S., EU and Asia dedicated to assisting customers on these and related outsourcing matters. Please contact the Gibson Dunn attorney with whom you usually work, any member of the firm’s Strategic Sourcing and Commercial Transactions Practice, or the authors.     Daniel Angel Co-Chair, Technology Transactions Practice New York +1 212.351.2329 dangel@gibsondunn.com     Dennis J. Friedman New York +1 212.351.3900 dfriedman@gibsondunn.com

© 2021 Gibson, Dunn & Crutcher LLP Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

September 2021 was certainly the month of sustainability initiatives for the UK’s competition watchdog.

On 20 September, the Competition & Markets Authority (CMA) published a Green Claims Code aimed at protecting consumers from misleading environmental claims amidst concerns over ‘greenwashing’. Greenwashing refers to overstated, unsubstantiated green credentials of a product or service. The Code is also intended to protect businesses from unfair competition and ensure a level playing field.

And then on 29 September, the CMA launched a public consultation, to help inform its advice to government on how competition and consumer regimes can better support the UK’s Net Zero and sustainability goals. The consultation runs until 10 November 2021.

Impact: who needs to take the Green Claims Code into account

The new Code potentially impacts any company which puts forward claims of positive environmental impact in relation to its products or services. It is particularly important for businesses involved in textiles and fashion, travel and transport, and fast-moving consumer goods because the CMA has flagged these industries as priorities. These are the sectors where consumers appear to be most concerned about misleading claims. Any other sector where the CMA finds significant concerns could also become a priority in due course. Financial services, for example, is not currently one of the CMA’s priority areas, but the Code would nonetheless apply in this sector. For example, to companies selling “ethical” or “green” investment services, which would also be a focus area of the UK’s financial services regulator, the Financial Conduct Authority (FCA).

The purpose of the Code is to help businesses understand and comply with their existing obligations under consumer protection law when making environmental claims. The Green Claims Code is broad and applies to all commercial practices, including advertisements, product labelling, packaging, and even product names.

The Code will operate in parallel with and not to the exclusion of other applicable rules and regimes. Accordingly businesses should consider whether they are subject to any sector- or product-specific requirements and ensure they comply with them, as well as their obligations under general consumer protection law.

Consequences: what happens if the Code is breached?

The Code is not new legislation, it draws on enforcement powers derived from existing consumer protection rules under the Consumer Protection from Unfair Trading Regulations (CPUT) 2008 and Business Protection from Misleading Marketing Regulations 2008.

The CMA and other bodies (for example, Trading Standards Services) can bring court proceedings in relation to the Code.

Any business found to be in breach of consumer law can face civil action or criminal prosecution. Breach of CPUT can attract criminal liability, including for directors and other officers of corporate bodies.

There is also a direct civil right of redress by consumers against traders who conduct misleading or aggressive practices. If found to be in breach, companies may be required to pay redress to any consumers harmed as a result of the breach.

More generally, a company’s reputation, and sales, could also suffer damage.

Timing: when will enforcement ramp up?

The CMA has announced that it will begin a review of misleading green claims in January 2022. It is not required to wait until January 2022 to take action, and has noted that where there is evidence of breaches of consumer law, it may take action before the start of the formal review.

The CMA shares consumer protection law enforcement powers with other bodies, such as Trading Standards Services and sectoral regulators. And, where appropriate, the CMA has flagged that it may work with other enforcement or regulatory bodies in relation to environmental claims.

Significance: why is greenwashing of importance to the CMA?

Consumers are increasingly environmentally-minded. A recent YouGov survey showed that 57% of UK consumers are willing to pay more for environmentally friendly products, increasing up to 69% of consumers for the younger generations. Mintel found in 2019 that nearly half of new UK beauty and personal care launches had an ethical or environmental claim, an increase of almost 100% compared to four years earlier. The CMA notes the increase in claims by businesses to meet this consumer demand, and considers that many of these claims may be misleading. A beauty product promoted as ‘microbead free’, for example, may be misleading in its suggestion of a benefit over other products because microbeads in rinse-off cosmetics and personal care products are, in any event, banned in the UK.

Earlier this year, the International Consumer Protection Enforcement Network (ICPEN) hosted its annual sweep of websites, led by the CMA and the Dutch Competition Authority. The global review found that 40% of green claims made online could be misleading consumers, through tactics such as:

• Making vague claims and unclear language including terms such as ‘eco’ or ‘sustainable’ or reference to ‘natural products’ without adequate explanation or evidence of the claims.
• Using own brand eco logos and labels that are not associated with an accredited organisation.
• Hiding or omitting certain information, such as a product’s pollution levels, to appear more eco-friendly.

More detail on the Code

In November 2020, the CMA announced an investigation into misleading environmental claims. The CMA’s final guidance has now been published, with the Green Claims Code announced on Monday 20 September. This work ties in to the CMA’s Annual Plan commitment to support the move towards a low carbon economy.

The aim of the new Code is to protect consumers from misleading environmental claims, and to protect businesses from unfair competition. The CMA intends to create a level playing field for businesses whose products or services genuinely represent a better choice for the environment, thus incentivising them to invest in the environmental performance of their products.

There are six principles set out in the Code:

1. claims must be truthful and accurate
2. claims must be clear and unambiguous
3. claims must not omit or hide important relevant information
4. comparisons must be fair and meaningful
5. claims must consider the full life cycle of the product or service
6. claims must be substantiated

The focus of the Code is on environmental claims made by businesses, but the guidance is also relevant to the wider category of sustainability claims.

The CMA is not alone: a trending initiative across Europe

The CMA’s new Green Claims Code forms part of a broader trend where competition regulators are taking an interest in the link between competition regulation and the green economy. This includes clamping down on suspected greenwashing practices.

There is also ongoing work in the advertising space in the UK by the Advertising Standards Authority, with new guidelines covering environmental claims in advertising. There are separate and specific regulations in place and being developed in relation to financial services products, for example the EU’s Sustainable Finance Disclosure Regulation and EU Taxonomy. Earlier this year, HM Treasury announced that a new advisory group had been set up to advise the UK Government on standards for green investment, and will oversee the creation of a Green Taxonomy.

The Dutch Competition Authority published new guidelines for sustainability claims in January 2021, which set out five rules for companies to follow, for example to substantiate sustainability claims with evidence.

The European Commission launched an initiative last year which aims to harmonise green claims across Europe, including the prevention of overstated environmental information (‘greenwashing’) and the sale of products with a covertly shortened lifespan. The EC held a public consultation on the initiative which closed in October 2020, and intends to propose a new directive as a result.

These recent developments are part of a trend in which failings traditionally thought to have fallen into soft-edged Environmental, Social and Governance territory are being hardened into actionable standards. Companies are increasingly being held to account for the claims they make about their own ethical and sustainability performance, particularly where these claims can negatively impact outcomes or choices for customers.

Dos and Don’ts: some practical tips for Green Claims

Companies potentially affected are well advised to review current business practices, in order to ensure compliance with the CMA’s new Code and avoid potentially incurring civil and criminal penalties and reputational damage for misleading consumers.

In particular, they should:

• Avoid using broad, general terms, such as ‘green’, ‘eco’ and ‘sustainable’. These claims will be considered to apply to the whole life cycle of the product and must be substantiated with evidence.
• Avoid conflating the environmental goals of the business with specific product claims.
• Clearly state any caveats that apply to product claims.
• Consider implicit claims being made by a product, for example through the use of images and colours on packaging.
• Avoid claiming as environmental benefits any features or benefits that are necessary standard features or legal requirements of that product or service type.

Following the CMA’s guidance is a good starting point. But multinational companies will also need to consider guidance available in other jurisdictions besides the UK.

The future: environmental sustainability and competition rules

There has been a lot of global interest in the interaction between climate change and competition law in recent years, with thought-provoking debate around how to tackle a global crisis through collaboration, without encouraging harmful collusion between competitors.

On 29 September 2021, the CMA opened a consultation on advice to the UK government. The consultation, which runs until 10 November 2021, calls for views to help inform its advice to government on how competition and consumer regimes can better support the UK’s Net Zero and sustainability goals, including preparing for climate change. The key areas in which the CMA is seeking information are:

• competition law enforcement;
• merger control;
• consumer protection law; and
• market investigations.

The CMA’s consultation is similar to the EU consultation on competition policy and the Green Deal, which ran in late 2020. Both consultations consider how antitrust policy and environmental and climate policies work together, and how the merger control regimes could better contribute to protecting the environment and supporting sustainability goals. The EC’s consultation is somewhat wider, as it also considered State aid rules, which is not within the scope of the CMA consultation.

On 10 September the EC published a Brief titled Competition Policy in Support of Europe’s Green Ambition which gives an overview of its consultation.  Executive Vice-President Vestager recently stated in a speech at the IBA Competition Conference that “one of the main messages from our consultation and the conference was the need to support the green transition by enforcing our rules more vigorously than ever.” DG COMP’s ongoing reviews of its vertical and horizontal block exemption regulations (and accompanying guidelines) provide a perfect opportunity for the EC to take a more proactive approach to promote sustainability through the application of EU competition law.  The new vertical guidelines are expected to be in  place by May 2022, with the new horizontal guidelines following by the end of December 2022 and so we will need to wait until then to see how Vestager’s message will translate in practice.

We expect the results of the UK consultation process to yield similar results to the EU consultation. But how the CMA will respond in its application of UK competition laws going forward is a development to be watched carefully.

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Gibson Dunn’s lawyers are available to assist in addressing any questions that you may have regarding the issues discussed in this update. For further information, please contact the Gibson Dunn lawyer with whom you usually work, any member of the firm’s Antitrust and Competition practice group, or the following authors:

Deirdre Taylor – London (+44 (0) 20 7071 4274, dtaylor2@gibsondunn.com)
Mairi McMartin – Brussels (+32 2 554 72 29, mmcMartin@gibsondunn.com)
Kirsty Everley – London (+44 (0) 20 7071 4043, keverley@gibsondunn.com)

Please also feel free to contact the following practice leaders and members:

Ali Nikpay – London (+44 (0) 20 7071 4273, anikpay@gibsondunn.com)
Deirdre Taylor – London (+44 (0) 20 7071 4274, dtaylor2@gibsondunn.com)
Selina S. Sagayam – London (+44 (0) 20 7071 4263, ssagayam@gibsondunn.com)
Susy Bullock – London (+44 (0) 20 7071 4283, sbullock@gibsondunn.com)
Patrick Doris – London (+44 (0) 20 7071 4276, pdoris@gibsondunn.com)
Attila Borsos – Brussels (+32 2 554 72 10, aborsos@gibsondunn.com)
Mairi McMartin – Brussels (+32 2 554 72 29, mmcMartin@gibsondunn.com)

© 2021 Gibson, Dunn & Crutcher LLP

Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

On September 22, 2021, the Public Company Accounting Oversight Board (the “PCAOB”) adopted a final rule (the “Final Rule”) implementing the Holding Foreign Companies Accountable Act (the “HFCAA”), which became law in December 2020 and prohibits foreign companies from listing their securities on U.S. exchanges if the company has been unavailable for PCAOB inspection or investigation for three consecutive years. The Final Rule (available here) requires U.S. Securities and Exchange Commission (the “SEC”) approval before it goes into effect.

In May 2021, the SEC adopted interim final amendments (the “Amendments”, available here) to certain forms, including Forms 20-F and 10-K, to implement the disclosure and submission requirements of the HFCAA. In June 2021, the Senate passed the Accelerating Holding Foreign Companies Accountable Act (the “AHFCAA”), which, if signed into law, would reduce the time period for the delisting of foreign companies under the HFCAA to two consecutive years, instead of three years.

Three aspects of the HFCAA and the PCAOB’s Final Rule should be kept in mind.

Read More

The following Gibson Dunn attorneys assisted in preparing this update: Michael Scanlon, David Lee, David Ware, and Maggie Zhang.

On September 23, 2021, President Joseph Biden announced his intention to nominate Professor Saule Omarova of Cornell Law School to be the next Comptroller of the Currency. The Comptroller heads the Office of the Comptroller of the Currency (OCC), the Treasury bureau that supervises national banks and federal thrifts; the Comptroller is also an ex officio member of the Board of Directors of the Federal Deposit Insurance Corporation (FDIC).

If confirmed by the Senate, Professor Omarova will have significant influence over regulatory policy, not only for banking institutions, but also for fintech companies that seek to enter the banking system via either a national bank or FDIC-insured industrial bank charter or that have bank partners.

Professor Omarova worked in the Bush Treasury Department and has published numerous articles on financial regulation. This Alert touches on the key themes of her academic writings and addresses how these themes could translate into regulatory priorities at the OCC and FDIC, and in view of the fact that President Biden will likely soon nominate a new Vice Chair for Supervision at the Board of Governors of the Federal Reserve System (Federal Reserve).

A. Key Themes

Professor Omarova has written on numerous topics in her academic career. Early on, she analyzed 1990s OCC interpretations that expanded national bank derivatives activities to include derivatives on commodities and equities; the Federal Reserve’s granting of Section 23A exemptions immediately before and during the 2008 Financial Crisis; and the historical exemptions from the definition of a “bank” under the Bank Holding Company Act.[1] More recently, she has written on bank governance, innovation in the financial industry, “culture” at financial institutions, restructuring the Federal Reserve to take customer demand deposits, and the “Too Big to Fail” problem, among other topics.[2]

Several key themes emerge from these writings:

• Concerns that post-Financial Crisis reforms have only magnified the size and interconnectedness of the largest banking organizations
• Concerns that banking and related financial activities frequently serve only private interests
• Concerns that activities outside of narrow banking – derivatives, commodities, trading, and even certain capital markets activities – are inherently risky
• Concerns that a focus on “innovation” may result in a weakening of supervisory standards

Perhaps most interesting, however, is Professor Omarova’s recurring theme that traditional bank supervision is too narrowly focused on what she calls “micro” issues and solutions, and that a new regulatory paradigm centered on overall “macro” economic and public interest goals, and including substantially increased government intervention in the financial sector, may be needed.

1. Concern with Size and Interconnectedness

Professor Omarova, like other observers, has noted one of the ironies of post-Financial Crisis regulation – that although the size and interconnectedness of the global banking sector contributed significantly to the Crisis, the financial system was saved only by increasing the size of the nation’s largest banks:

The post-crisis increase in the level of concentration of the U.S. financial industry is difficult to deny. For example, as of the year-end 2017, top five U.S. bank holding companies (BHCs) held forty-eight percent of the country’s BHC assets. By early 2018, there were four U.S. BHCs with more than $1.9 trillion in assets on their individual balance sheets. Despite the post-crisis passage of the Dodd-Frank Act, the most wide-ranging regulatory reform in the U.S. financial sector since the 1930s, [too big to fail] remains a “live” issue on the public policy agenda.[3]

This in turn, she believes, imposes considerable challenges for supervisors: “today’s financial system is growing increasingly complex and difficult to manage. This overarching trend manifests itself not only in the dazzling organizational complexity of large financial conglomerates, but also in the exponential growth of complex financial instruments – derivatives, asset-backed securities, and other structured products – and correspondingly complex markets in which they trade.”[4] The result is that it is “extremely difficult to measure and analyze not only the overall pattern of risk distribution in the financial system but also the true level of individual financial firms’ risk exposure.”[5]

2. Private Versus Public Interest

It is fair to say that Professor Omarova is not a strong believer in the “Invisible Hand.” Her articles frequently posit a dichotomy between the driving forces of finance and the “public interest.”  Her article on bank culture, for example, makes this assertion:

[New York Federal Reserve Bank President] Gerald Corrigan argued that, in exchange for the publicly-conferred benefits uniquely available to them, banks have an obligation to align their implicit codes – and their actual conduct – with the public good. In practice, however, there has been little evidence of such an alignment . . . .  One of the most troubling revelations [about bank conduct before the Financial Crisis] was that, in the vast majority of these cases, banks’ and their employees’ socially harmful and ethically questionable business conduct was perfectly permissible under the existing legal rules. In each of those instances, bankers voluntarily, and often knowingly, chose to pursue a particular privately lucrative but socially suboptimal business strategy. And, as long as mortgage markets kept going up and speculative trading in mortgage assets remained profitable, bankers showed no interest in fulfilling their public duties or prioritizing moral values over pecuniary self-interest.[6]

In an article on bank governance, she returns to this theme, stating that “[a]ll too often, however, the incentives of bank managers and shareholders to pursue short-term private gains are perfectly aligned but work directly against the public interest in preserving long-term financial stability. The recent financial crisis . . . made abundantly clear that the modern system of corporate governance . . . is not a sufficiently reliable or consistent mechanism for managing this insidious and apparently pervasive conflict in a publicly beneficial way.”[7]

Although it is clear how Professor Omarova views what then-Chief Judge Cardozo called “the forms of conduct permissible in a workaday world for those acting at arm’s length,”[8] it is less clear how she defines the “public interest.” Her writings do, however, suggest that it includes a focus on maintaining financial stability and appropriately allocating capital and credit to productive use, which she argues is not likely to occur absent government intervention:

[T]o date, there has been no meaningful debate on improving the system-wide allocation of financial resources to productive enterprise. In most, if not all, post-crisis discussions on financial regulation, the underlying presumption remains that private market actors are inherently better at assessing financial risks and spotting potentially beneficial investment opportunities ‘on the ground.’ Accordingly, the existing dysfunctions in the process of system-wide credit allocation are framed predominantly in terms of specific private incentive misalignments or more general political-economy frictions.[9]

3. Preference for Narrow Banking

From her earliest writings, Professor Omarova has expressed a distrust of activities that are not at the core of traditional commercial banking. In an early article, she took issue with the OCC’s increasingly flexible approach to interpreting the phrase “business of banking” in the National Bank Act to include derivative activities related to commodities and equities, including hedging such activities through physically settled transactions, and related activities such as national bank participation in power marketing and clearing organizations.[10] She similarly criticized Federal Reserve interpretations of the Gramm-Leach-Bliley Act under which commodity activities were deemed “complementary” to financial activities, and investments in commodity-related assets could be permissible merchant banking investments.[11]  (It is worthwhile remembering that under Governor Daniel Tarullo, the Federal Reserve commenced an advanced notice of proposed rulemaking to consider established commodity activities by financial holding companies.[12]) And Professor Omarova strongly supported the statutory Volcker Rule but feared that the law’s mandated administrative rulemakings had great potential to weaken it.[13]

These concerns about risks from non-traditional activities extend to capital markets activities generally, including those that were broadly permissible for bank holding companies even before the Gramm-Leach-Bliley Act was enacted. (By 1997, the Federal Reserve had interpreted the Glass-Steagall Act in a manner that posed few limits on corporate debt and equity underwriting and dealing, in addition to underwriting and dealing in bank-permissible assets.[14]) Professor Omarova states that “[i]n today’s world, secondary markets in financial assets are far bigger, more complex, and more systemically important than primary markets. . . . It is not surprising, therefore, that today’s secondary markets in financial instruments are the principal sites of both relentless transactional ‘innovation’ and chronic over-generation of systemic risk.”[15]  In criticizing the Federal Reserve’s Section 23A exemptions granted during the Financial Crisis, she argued that “it is hard to deny that these extraordinary liquidity backup programs also functioned to prop up the banks’ broker-dealer affiliates, which . . . were in the business of creating, trading, and dealing in securities that needed . . . financing and, as a result, had direct exposure to . . . highly unstable markets.”[16]

4. Innovation as a Source of Risk

In contrast to former Acting Comptroller Brian Brooks, who encouraged financial innovation, most notably with respect to national charters for virtual currency companies, Professor Omarova has had a skeptical eye on the question. One of her early articles, as noted above, criticized the OCC for its interpretive approach with respect to equity and commodity derivatives:

[T]he OCC’s highly expansive interpretation of the “business of banking” . . . served to undermine the integrity and efficacy of the U.S. system of bank regulation. Through the seemingly routine and often nontransparent administrative actions, the OCC effectively enabled large U.S. commercial banks to transform themselves from the traditionally conservative deposit-taking and lending institutions, whose safety and soundness were guarded through statutory and regulatory restrictions on potentially risky activities, into a new breed of financial “super-intermediaries,” or wholesale dealers in pure financial risk.[17]

This view carries over in later discussions of pre-Financial Crisis loan securitizations and credit default swaps, as well as fintech generally.  Of the latter, Professor Omarova has written:

By making transacting in financial markets infinitely faster, cheaper, and easier to accomplish, fintech critically augments the ability of private actors to synthesize tradable financial claims – or private liabilities – and thus generate new financial risks on an unprecedented scale. Moreover, as the discussion of Bitcoin and ICOs shows, new crypto-technology enables private firms to synthesize tradable financial assets effectively out of thin air. . . . The sheer scale and complexity of the financial market effectively “liberated” from exogenously imposed constraints on its growth will make it inherently more volatile and unstable . . . . The same factors, however, will also make it increasingly difficult, if not impossible, for the public to control, or even track, new technology-driven proliferation of risk in the financial system.[18]

5. The Futility of Bank Supervision

Perhaps most interestingly for someone who would be the lead supervisor of most of the nation’s largest banks, Professor Omarova’s writings show a decidedly pessimistic view of the effectiveness of financial regulation. She frequently points out the failures of what she terms “micro” entity-specific solutions to such risks, in order to argue in favor of a revised “macro,” i.e., far more fundamental and structural, approach.  One example comes from her article on Too Big To Fail: “At the heart of the TBTF problem, there is a fundamental paradox: TBTF is an entity-centric, micro-level metaphor for a cluster of interrelated systemic, macro-level problems. This inherent conceptual tension between the micro and the macro, the entity and the system, frames much of the public policy debate on TBTF.”[19]

Professor Omarova’s “macro” approach includes suggestions of potential governmental interventions in the financial system on a scale unprecedented even in times of crisis – government “golden shares” in large financial companies that would allow the government to override management decisions to forestall a crisis,[20] Federal Reserve counter-cyclical intervention in a broader range of financial markets,[21] “public interest” guardians who would supplement regulatory bodies to correct the self-interest of the financial sector,[22] and a significant National Investment Authority to counteract the biases of the private investment community.[23] As Professor Omarova acknowledges, such measures would require new legislation, for which there does not currently appear to substantial appetite.

B. Consequences For Regulatory Priorities

What then do these themes likely foretell should Professor Omarova receive Senate confirmation? It is of course always a challenge to predict the future, and academic writing is frequently at its best when it seeks to challenge traditional paradigms and manners of thought. This said, it does seem that the following outcomes are certainly within the realm of possibility.

1. Size and Interconnectedness

The OCC currently supervises eight of the country’s ten largest banks: JPMorgan Chase, Bank of America, Wells Fargo, Citibank, US Bank, PNC Bank, TD Bank, and Capital One, ranging from just under $400 billion in assets to over $3 trillion in assets. Some, but not all, of them also engage broadly in investment banking activities. The OCC also regulates many banks in the next asset tier below.

The OCC does not have any general authority to break up well-managed banks or to order them to cease activities, but it is not unusual for the OCC to adjust its supervisory approach based on the risk profile of an institution. What Professor Omarova might add to this traditional approach given her views of increasing systemic risk and the importance of the “macro” is a more holistic approach, in which not only will a particular institution’s own risk profile determine its supervision, but also the perceived risks created by those institutions to which it is most connected. In addition, large banks that fail to meet supervisory expectations can face activities limitations; an early article by Professor Omarova analyzed the idea of requiring regulatory approval of complex financial products.[24]

Moreover, although mergers of bank holding companies must be approved only by the Federal Reserve, in many cases once the holding company merger has been approved, the parties seek to merge the subsidiary banks for efficiency reasons. If the resulting bank will be a national bank, the OCC must approve the transaction under the Bank Merger Act. The statutory factors that the OCC must consider are similar to those the Federal Reserve considers, but the OCC makes an independent decision. Many of the required factors relate to size – competitive effect, ability of management (including on integrating institutions), and financial stability.[25]

2. Private Interest Versus Public Interest

In terms of constraining what Professor Omarova views as the self-interest of the financial sector, it is noteworthy that the responsible agencies, including the OCC, have never completely finalized the executive compensation rulemaking required by Dodd-Frank, something to which SEC Chair Gary Gensler has recently called attention.[26] One of the more controversial aspects of the original rulemaking was the extent of permissible clawbacks of compensation, if actions by individual bankers ended up imposing losses on the financial institution involved. On this question, Professor Omarova’s characterization of the “morals of the marketplace” could be significant.

Another means by which the bank regulators have sought to address privatizing gains and socializing losses since the Crisis is bank governance. The OCC’s principal contribution in this regard is its Guidelines Establishing Heightened Standards for large national banks and federal thrifts, which impose a prescriptive approach to certain aspects of bank corporate governance.[27] These Guidelines were adopted as safety and soundness standards pursuant to Section 39 of the Federal Deposit Insurance Act, which gives the OCC the authority to issue orders for noncompliance, orders that may be enforced by the issuance of civil money penalties or in federal district court actions. The OCC could further strengthen these standards or take a more aggressive approach to enforcing them.

3. Narrow Banking

Historically, as Professor Omarova herself has noted, the OCC has been one of the most flexible agencies in its interpretations of its governing statute, the National Bank Act. Although certain of the activities that she has criticized for increasing systemic risk are conducted by bank affiliates, not all of them are:  national banks conduct significant derivative activities, certain capital markets activities are bank permissible, and numerous bank activities implicate the broad definition of proprietary trading contained in the Volcker Rule. Even in the absence of revisiting, for example, the National Bank Act interpretations relating to permissible derivatives activities, the OCC has the authority to examine all national bank activities. Those banking institutions with substantial businesses in areas that Professor Omarova has characterized as non-core and risk-creating should therefore expect a much stricter supervisory approach. The Volcker Rule regulations, which as revised still invite significant supervisory discretion in practice due to the difficulty of distinguishing between prohibited trading and permissible activities like risk-mitigating hedging, could well see ramped up examination interest, and expectations of compliance programs could increase.

4. Innovation and Fintechs

There are currently several pressing fintech-related issues at the OCC. First is the question of whether the OCC will grant a national bank charter to a company that proposes to make loans but not take FDIC-insured deposits, and that is not a statutorily authorized national trust bank. The OCC has claimed the authority under the National Bank Act to issue such a charter, but it has not acted on one such application, and it has been sued in federal court by state banking supervisors who believe that granting such a charter goes beyond the business of banking in the National Bank Act.  Professor Omarova’s statements on the potential perils of innovation for supervisors and her general “public interest” concerns may well be relevant on this question.

Second, shortly before and just after President Biden was inaugurated, the OCC granted three trust company charters to digital currency companies, and issued a broad interpretation of permissible digital currency activities under the National Bank Act. The OCC is currently re-examining the bases for such charters, with Acting Comptroller Hsu expressing safety and soundness concerns over certain virtual currency activities. For Professor Omarova, virtual currencies and other digital assets are one of the areas where innovation is most likely to cause systemic risk.[28]

Third, Professor Omarova will be a voting member of the FDIC Board, which determines whether a state industrial bank may receive deposit insurance, and which also must approve any change of control transaction involving an FDIC-insured industrial bank. Under Chair Jelena McWilliams – but with a Republican-appointed Comptroller and Republican-appointed Director of the Consumer Financial Protection Bureau – the FDIC Board approved two such applications, one for Square and one for Nelnet.  In one of her earliest articles, Professor Omarova analyzed the historical exemption for industrial banks in the Bank Holding Company Act,[29] and since that writing, Congress has refused to repeal the exemption, and the FDIC has finalized a framework for supervising the parents of industrial banks. It is certainly possible that given her preference was “narrow” banking, Professor Omarova would wish to see a linkage to traditional banking activities, with ancillary activities being preferable when conducted in an agency capacity, when considering such applications.

Finally, many fintechs operate via bank partnerships. Under the Trump Administration, the OCC issued fintech-friendly interpretations regarding the “true lender” and “valid when made” doctrines, which engendered opposition from consumer groups and certain state regulators and attorneys general.  Congress used the Congressional Review Act this summer to void the “true lender” rule, but the “valid when made” interpretation remains. Professor Omarova’s criticism of the elasticity of the OCC’s interpretations of the National Bank Act on derivatives matters during the 1990s could extend beyond the derivatives area to bank-fintech partnership issues.  Demonstrating a lack of increased risk to banks and the system from such partnerships, therefore, could become significant.

5. The Quarles/Brainard Divide – Likely Positioning

It is also important to note that Professor Omarova’s appointment is not taking place in a vacuum. In several weeks, Vice Chair Randal Quarles’s term as the Federal Reserve Governor in charge of bank supervision will come to an end, although a mere Governor Quarles could remain at the Federal Reserve for another decade. During the last four years, Vice Chair Quarles has shepherded through a number of “reforms to the reform” wrought by the Dodd-Frank Act. Many of the more important actions drew dissents from Governor Lael Brainard, who is one of the contenders to be Governor Quarles’ successor.  Of these actions, quite a few implicated rules promulgated by the OCC as well as the Federal Reserve:

• Loosening the regulatory restrictions of the Volcker Rule
• Tailoring capital and liquidity requirements for an institution’s asset size and other factors, with institutions between $100 billion and $250 billion in assets particularly benefiting
• Reducing margin requirements for inter-affiliate uncleared swap transactions
• Proposing to reduce the enhanced supplementary leverage ratio for the largest banks and their holding companies

From her articles, Professor Omarova would appear to be decidedly in Governor Brainard’s camp on these four issues.

Conclusion: The Limits of Bank Supervision and Regulation

In her writings, Professor Omarova is a strong proponent for government intervention in the financial system, and a skeptic of a light-touch supervisory approach. In this way, she is reminiscent of the first de facto Federal Reserve Governor for bank supervision, another banking law professor turned regulator, Daniel Tarullo.  Governor Tarullo, of course, oversaw the implementation of a highly prescriptive top-down approach to bank supervision at the Federal Reserve, which even he noted in his “farewell address” may have gone too far in some areas, particularly for non-systemic banks.[30]  Professor Omarova also has quite a bit in common with former FDIC Chair Sheila Bair, who herself was a professor of regulatory policy, was critical of bank derivative activities, and pushed the Collins Amendment to the Dodd-Frank Act because of her suspicions regarding internal bank financial models.

But it is also fair to say that neither Governor Tarullo nor Chair Bair appeared to have quite as skeptical views on the limitations of bank supervision and regulation as Professor Omarova. What will a proponent of a new paradigm approach to the American banking industry do in the absence of any legislative appetite for departing from the reigning paradigm since the New Deal?

This is perhaps the most difficult question of all to answer. A logical response, however, is that in those areas that are perceived to pose the greatest risk, such a proponent would double down on the supervisory tools that are currently available in order to counter perceived risks at inception. Large federal banking institutions that depart from core deposit and lending activities should therefore expect searching supervisory reviews of their non-traditional activities.

_________________________

   [1]   Saule T. Omarova, “The Quiet Metamorphosis: How Derivatives Changed the ‘Business of Banking,’” 63 U. Miami L. Rev. 1041 (2009);  Saule Omarova, “From Gramm-Leach-Bliley to Dodd-Frank:  The Unfulfilled Promise of Section 23A of the Federal Reserve Act,” 89 N.C. L. Rev. 1683 (2011); Saule T. Omarova and Margaret E. Tahyar, “That Which We Call a Bank:  Revisiting the History of Bank Holding Company Regulation in the United States,” 31 Rev. Banking & Fin. L. 113 (2012).

   [2]   Saule T. Omarova, “Bank Governance and Systemic Stability: The ‘Golden Share’ Approach,” 68 Ala. L. Rev. 1029 (2017); Saule T. Omarova, “New Tech v. New Deal: Fintech as a Systemic Phenomenon,” 36 Yale J. on Reg. 735 (2019); Saule T. Omarova, “Ethical Finance as a Systemic Challenge: Risk, Culture, and Structure,” 27 Cornell J.L. & Pub. Pol’y 797 (2018); Saule T. Omarova, “The ‘Too Big to Fail’ Problem,” 103 Minn. L. Rev. 2495 (2019).

   [3]   “The ‘Too Big to Fail’ Problem,” supra note 2.

   [4]   Id.

   [5]   Id.

   [6]   “Ethical Finance as a Systemic Challenge: Risk, Culture, and Structure,” supra note 2.

   [7]   “Bank Governance and Systemic Stability: The ‘Golden Share’ Approach,” supra note 2.

   [8]   Meinhard v. Salmon, 164 N.E. 528 (N.Y. 1928).

   [9]   Saule T. Omarova, “What Kind of Finance Should There Be?”, 83 Law & Contemp. Probs. 195 (2020).

  [10]   “The Quiet Metamorphosis:  How Derivatives Changed the ‘Business of Banking,’” supra note 1.

  [11]   Saule T. Omarova, “The Merchants of Wall Street: Banking, Commerce, and Commodities,” 98 Minn. L. Rev. 265 (2013).

  [12]   See https://www.federalreserve.gov/newsevents/pressreleases/bcreg20140114a.htm.

  [13]   Saule T. Omarova, “The Dodd-Frank Act: A New Deal for A New Age?”, 15 N.C. Banking Inst. 83 (2011)

  [14]   See https://www.federalreserve.gov/boarddocs/press/boardacts/1996/19961220/ (increasing limit on bank ineligible revenues for Section 20 companies to 25 percent of total revenues).

  [15]   “What Kind of Finance Should There Be?”, supra note 9.

  [16]   “From Gramm-Leach-Bliley to Dodd-Frank:  The Unfulfilled Promise of Section 23A of the Federal Reserve Act,” supra note 1.

  [17]   “The Quiet Metamorphosis:  How Derivatives Changed the ‘Business of Banking,’” supra note 1.

  [18]   “New Tech v. New Deal: Fintech as a Systemic Phenomenon,” supra note 2.

  [19]   “The ‘Too Big to Fail’ Problem,” supra note 2.

  [20]   “Bank Governance and Systemic Stability: The ‘Golden Share’ Approach,” supra note 2.

  [21]   “The ‘Too Big to Fail’ Problem,” supra note 2.

  [22]   Saule T. Omarova, “Bankers, Bureaucrats, and Guardians: Toward Tripartism in Financial Services Regulation,” 37 J. Corp. L. 621 (2012).

  [23]   Robert C. Hockett & Saule T. Omarova, “Private Wealth and Public Goods: A Case for a National Investment Authority,” 43 J. Corp. L. 437 (2018).

  [24]   Saule T. Omarova, “License to Deal: Mandatory Approval of Complex Financial Products,” 90 Wash. U. L. Rev. 63 (2012).

  [25]   12 U.S.C. § 1828(c).

  [26]   Akayla Gardner & Ben Bain, “Wall Street Pay Clawback Rule to Get New Push at SEC,” Bloomberg News (September 22, 2021).

  [27]   12 C.F.R. Part 30 (Appendix D).

  [28]   “New Tech v. New Deal: Fintech as a Systemic Phenomenon,” supra note 2.

  [29]   “That Which We Call a Bank:  Revisiting the History of Bank Holding Company Regulation in the United States,” supra note 1.

  [30]   See https://www.federalreserve.gov/newsevents/speech/tarullo20170404a.htm.

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The following Gibson Dunn lawyers assisted in preparing this client update: Arthur Long.

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, the author, or any of the following members of the firm’s Financial Institutions practice group:

Matthew L. Biben – New York (+1 212-351-6300, mbiben@gibsondunn.com)
Michael D. Bopp – Washington, D.C. (+1 202-955-8256, mbopp@gibsondunn.com)
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Matthew Nunan – London (+44 (0) 20 7071 4201, mnunan@gibsondunn.com)
Jeffrey L. Steiner – Washington, D.C. (+1 202-887-3632, jsteiner@gibsondunn.com)

© 2021 Gibson, Dunn & Crutcher LLP

Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

On Friday, September 24, the White House’s “Safer Federal Workforce Task Force” (“Task Force”) issued new guidance (the “Guidance”) regarding vaccination requirements and other COVID-safety measures for federal contractor employees. This Guidance implements President Biden’s Executive Order regarding COVID precautions for government contractors, issued September 9, 2021.

Key terms of the Guidance include a vaccination mandate for all covered employees of federal contractors, except in “limited circumstances” for workers “legally entitled” to accommodation. The vaccination mandate applies to covered employees working from home and who have recovered from COVID-19. There is no alternative for workers to present a weekly negative COVID test, as expected in the forthcoming Occupational Safety and Health Administration Emergency Temporary Standard (“OSHA ETS”) for large employers.  Employers covered by both the Guidance and the OSHA ETS (i.e., federal contractors with 100 or more employees) would be held to this higher standard. The Guidance also directs masking and distancing practices in accordance with CDC guidelines.

This alert provides a brief overview of these and other provisions of the Guidance for contractors.

I.   President Biden’s September 9 Executive Order Regarding Vaccinations for Employees of Federal Contractors

The Executive Order for federal contractors called for the Task Force, which the President established in January, to establish vaccination requirements for federal contactors by September 24.[1] The Order is effectuated by directing federal agencies to include a clause in contracts requiring “the contractor and any subcontractors (at any tier)” to “comply with all guidance for contractor or subcontractor workplace locations published by the Safer Federal Workforce Task Force,” “for the duration of the contract.”[2]  Under the Order, this clause is to be included in new contracts and extensions and renewals of existing contracts, and “shall apply to any workplace locations . . . in which an individual is working on or in connection with a Federal Government contract.”[3]

The Order cited the Federal Property and Administrative Services Act (the Procurement Act) as authority for the new federal contractor mandate.[4]  As noted in prior alerts, there is some question whether the Procurement Act authorizes the imposition of workplace safety standards in this manner, and legal challenges are possible. 

II.   Key Definitions

The Guidance defines the following key terms:

• A covered contractor is “a prime contractor or subcontractor at any tier who is party to a covered contract.”
• A covered contractor employee is “any full-time or part-time employee of a covered contractor (1) working on or in connection with a covered contract or (2) working at a covered contractor workplace.”
• An employee works “in connection with a covered contract” when he performs “duties necessary to the performance of the covered contract, but who are not directly engaged in performing the specific work called for by the covered contract,” such as human resources, billing, and legal review.
• A covered contractor workplace is a “location controlled by a covered contractor at which any employee of a covered contractor working on or in connection with a covered contract is likely to be present during the period of performance for a covered contract. A covered contractor workplace does not include a covered contractor employee’s residence.”

III.   Three Areas of COVID-19-Safety Protocols

The Guidance addresses three key safety requirements for covered contractors and subcontractors at all tiers, except for contracts which are “under the Simplified Acquisition Threshold as defined in section 2.101 of the FAR” and contracts or subcontracts “for the manufacturing of products.”[5] The FAQs go on to state that these safety protocols do not apply to “subcontracts solely for the provision of products” and “covered contractor employees who only perform work outside the United States or its outlying areas.” Thus, the Guidance’s exceptions to the safety protocols largely do not expand or contract the scope of applicable contracts from the Executive Order.

(1)  Vaccination:

The Guidance states that all covered contractor employees, including those who previously had COVID-19 as well as covered contractor employees working from home, must be fully vaccinated by December 8. The only exceptions are for employees who are “legally entitled to an accommodation” for medical or religious reasons.

A covered contractor is responsible for reviewing requests for accommodation and determining what, if any, accommodations to offer. Covered contractors are not responsible for providing vaccines to their employees (but may choose to do so), nor are they instructed to pay employees for the time and expenses associated with getting vaccinated (however, this may be a requirement of state and local law and is expected to be a requirement for large employers in the forthcoming OSHA ETS).

Contractors are instructed to review and verify, but not necessarily collect or store, documents to ensure that their employees are fully vaccinated. Acceptable documents include physical or electronic CDC cards, state health records, or private medical records. Unacceptable documents include positive antibody tests and attestations that an employee is vaccinated.

Agencies have discretion to grant temporary exemptions from the vaccine requirement when there is “an urgent, mission-critical need” to have contractors begin work before becoming fully vaccinated. Even then, employees must be fully vaccinated within 60 days of beginning work on the contract. They also must adhere to physical distancing and masking requirements for unvaccinated workers in the meantime.

(2)  Physical Distancing and Masks:

Contractors must ensure that all employees and visitors present in covered contractor workplaces follow CDC guidance pertaining to physical distancing and masks. Fully vaccinated employees do not have to physically distance, but unvaccinated employees should maintain six feet of distance from others whenever practicable.

In areas of high community transmission (as determined by the CDC), everyone, including visitors, whether vaccinated or not, must wear masks indoors. In areas of low community transmission, only the unvaccinated must wear masks indoors (they also must wear masks outdoors in certain circumstances). Contractors are responsible for checking the CDC’s website weekly to determine the transmission rate of the local community. When the transmission rate increases, additional safety measures are effective immediately. When the transmission rate decreases to a low or moderate level, safety measures can be removed after two consecutive weeks at that lower level.

These mask mandates apply in all shared spaces and common areas. They do not apply in enclosed office spaces or when individuals are eating or drinking and maintaining appropriate distancing. Contractors can create exceptions to the mask mandate for situations where masks can burden breathing or otherwise pose a safety concern as determined by a workplace risk assessment. And the mask requirements do not apply when employees are working remotely from their residences.

As with the vaccination requirement, employers must review and consider what, if any, religious and medical accommodations to the mask requirement they must offer.

(3)  Implementation:

All covered contractors must designate a COVID-safety coordinator. The coordinator is an employee responsible for coordinating, implementing, and enforcing compliance with the Guidance. The coordinator must provide relevant information about the Guidance to employees and visitors likely to enter a covered contractor workplace. The Guidance is silent as to whether a coordinator is required for each worksite or whether a single coordinator can fulfill these responsibilities for more than one worksite.

IV.   Relationship to Other Federal and State Mandates

The Guidance purports to apply in all states and municipalities, even those that prohibit employers from imposing vaccination, mask, and distancing requirements. It claims to supersede any contrary state laws and local ordinances. It does not, however, excuse covered contractors from complying with stricter measures imposed by state and local governments. The Guidance also says that agencies may impose additional safety requirements on covered contractor employees while present on federal property.

The Guidance states that all contractors must comply with its COVID-19 protocols, even those employers that will also be subject to the forthcoming OSHA ETS. As we previously explained, the ETS—which is anticipated within weeks of September 9—is expected to require all employers with 100 or more employees to ensure that their workforce is fully vaccinated or to require any workers who remain unvaccinated to produce a negative test result at least weekly before coming to work. However, the Guidance for contractors states that “[c]overed contractors must comply with the requirements set forth in this Guidance regardless of whether they are subject to other workplace safety standards,” such as the forthcoming ETS. Given that the Guidance does not indicate that employees can undergo regular COVID testing in lieu of being vaccinated (and in fact does not mention testing at all), large employers who are also federal contractors will not be able to avoid a vaccination requirement by relying on the ETS testing option.

Finally, new contracts must state that if the Safer Federal Workforce Task Force updates its Guidance to add new requirements, those requirements will apply to existing contracts.

________________________

   [1]   Executive Order on Ensuring Adequate COVID Safety Protocols for Federal Contractors (Sept. 9, 2021), https://www.whitehouse.gov/briefing-room/presidential-actions/2021/09/09/executive-order-on-ensuring-adequate-covid-safety-protocols-for-federal-contractors/.

   [2]   Id. § 2.

   [3]   Id.

   [4]   Id. (citing 40 U.S.C. 101 et seq).

   [5]   The Executive Order exempted “(i) grants; (ii) contracts, contract-like instruments, or agreements with Indian Tribes…; (iii)  contracts or subcontracts whose value is equal to or less than the simplified acquisition threshold, as that term is defined in section 2.101 of the Federal Acquisition Regulation; (iv) employees who perform work outside the United States or its outlying areas, as those terms are defined in section 2.101 of the Federal Acquisition Regulation; or (v) subcontracts solely for the provision of products.”  Executive Order on Ensuring Adequate COVID Safety Protocols for Federal Contractors.

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The following Gibson Dunn attorneys assisted in preparing this client update: Eugene Scalia, Jason C. Schwartz, Katherine V.A. Smith, Jessica Brown, Lucas C. Townsend, Lindsay M. Paulin, Andrew G. I. Kilberg, Chad C. Squitieri, Marie Zoglo, and Josh Zuckerman.

Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding these developments. To learn more about these issues, please contact the Gibson Dunn lawyer with whom you usually work, or any of the following in the firm’s Administrative Law and Regulatory, Labor and Employment or Government Contracts practice groups.

Administrative Law and Regulatory Group:
Eugene Scalia – Washington, D.C. (+1 202-955-8543,escalia@gibsondunn.com)
Helgi C. Walker – Washington, D.C. (+1 202-887-3599, hwalker@gibsondunn.com)

Labor and Employment Group:
Jason C. Schwartz – Washington, D.C. (+1 202-955-8242, jschwartz@gibsondunn.com)
Katherine V.A. Smith – Los Angeles (+1 213-229-7107, ksmith@gibsondunn.com)

Government Contracts Group:
Dhananjay S. Manthripragada – Los Angeles (+1 213-229-7366, dmanthripragada@gibsondunn.com)
Joseph D. West – Washington, D.C. (+1 202-955-8658, jwest@gibsondunn.com)

© 2021 Gibson, Dunn & Crutcher LLP

Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

The use of alternative data in investment decision-making—incorporating large volumes of data found outside a company’s public filings—has expanded rapidly in the last several years, as data has increased in availability. Investment funds commonly have data analysts use a variety of alternative data sources, from data on commercial transactions to information about human behavior, to inform investment decisions in trading securities. And the alternative data industry is continuing to grow. In 2020, the industry was valued at $1.72 billion and, by 2028, is expected to reach close to $70 billion.[1] With increasing popularity, it’s unsurprising this growth has led to increased interest from market regulators. While the SEC has shown interest in alternative data in the past, it recently took the significant step in bringing the first enforcement action against an alternative data provider for securities fraud.

The App Annie Settlement 

On September 14, 2021, the SEC announced a settled enforcement action against App Annie, Inc., an alternative data provider, and the Company’s co-founder and former CEO and Chairman Bertrand Schmitt, for misrepresentations both to data sources in connection with the collection of data, and to investment firm subscribers regarding the data underlying its product.[2] Without admitting or denying the findings, App Annie and Schmitt consented to a cease-and-desist order finding a violation of Section 10(b) of the Exchange Act and Rule 10b-5, and imposing a penalty of $10 million for App Annie, and $300,000 for Schmitt, and a three-year officer and director bar against him.

App Annie provides market data analytics on mobile application performance. Companies with mobile applications provide App Annie access to their data in return for free analytics. App Annie sells a data analytics product to investment firms and other subscribers for a fee. App Annie’s Terms of Service represented that its data analytics estimates were generated using statistical models from data that was aggregated and anonymized. In reality, according the SEC, between late 2014 and mid-2018, App Annie used actual non-aggregated and non-anonymized performance data from companies to reduce disparities between model-driven estimates and the actual data and thereby make App Annie’s paid subscription product more accurate and more valuable to its trading firm clients.

According to the SEC’s order, App Annie’s use of non-anonymized and non-aggregated data to enhance the accuracy of its analytics product rendered representations made to the sources of data, as well as the subscribers to the analytics, materially misleading. In collecting data from companies’ applications, App Annie represented to the companies providing access to app usage data that all data would be aggregated and anonymized before utilized in its paid subscription product.  In addition, App Annie represented to its investment firm subscribers that the Company’s estimates were generated in a manner consistent with the consents it obtained from the underlying data sources, and that App Annie had effective controls to prevent misuse of confidential data and ensure compliance with federal securities laws. However, the SEC found that because App Annie’s estimates used non-aggregated and non-anonymized data, in contradiction to its representations to its data sources, the Company’s estimates were based on data used in a manner inconsistent with its representations to its data providers.  According to the order, App Annie understood that investment firm subscribers were using the Company’s product to make investment decisions and that subscribers did in fact trade based on App Annie’s data product.

The order asserts, without explanation, that the data on app usage “often is material to a public company’s financial performance and stock price.” The order also does not explain how App Annie’s incorporation of actual data into its estimates rendered the various representations to subscribers materially misleading as required by Section 10(b) or how the alleged misrepresentations were “in connection with” the purchase or sale of securities. Rather the order asserts that Schmitt “understood it was material to trading firms’ decisions to use App Annie’s estimates for investment purposes.”

The order does not provide for any disgorgement or even provide a Fair Fund to distribute any of the penalty to customers who may have been harmed. Finally, it is notable that Schmitt agreed to a three year officer and director bar even though App Annie is a private company.

Individual Liability for App Annie CEO Bertrand Schmitt

In bringing claims against Schmitt individually, the order emphasizes Schmitt’s direct involvement in the decision to use non-aggregated and non-anonymized data. The SEC further found Schmitt oversaw a “manual estimate alteration process,” during which engineers made manual adjustments to purportedly statistical models to make them more “accurate” in tracking actual company metrics. When the Company learned of Schmitt’s misconduct in June 2018, it ceased manually adjusting its data and stopped using non-aggregated and non-anonymized data in its subscription product. Around the same time, Schmitt resigned as CEO. He served as Chief Strategy Officer of App Annie until he was terminated in January 2020.

After the SEC published the order, Schmitt addressed the settlement on LinkedIn.[3]  He noted that “compliance was a critical element of the business” and that he and App Annie “obtained legal advice on compliance procedures and even hired an in-house compliance team.” Nonetheless, the SEC explicitly found that, contrary to the App Annie’s representations, “during the relevant period, the Company did not have effective internal controls and did not conduct regular compliance reviews,” suggesting the SEC did not credit any advice of counsel defense.

Regulatory Risks and Mitigation Strategies  

While this settlement represents the first enforcement action in this space, the SEC has been increasing its focus on the growing alternative data sphere for several years. In its 2020 Examination Priorities, the Commission’s Office of Compliance Inspection and Examinations included for the first time a focus on investment advisers’ use of alternative data.[4] The Commission noted that examinations will “focus on firms’ use of these data sets and technologies to interact with and provide services to investors, firms, and other service providers and assess the effectiveness of related compliance and control functions.”[5] The SEC’s press release announcing the App Annie settlement also acknowledged the role of the examination staff in the investigation that led to the enforcement action.[6]

For years, we have counseled clients on risk mitigation strategies for the use of alternative data. While this settlement highlights the regulatory risks accompanying the use of alternative data, it also validates the importance of the compliance oversight that subscribers have employed to manage those risks. Notably, the representations that subscribers received protected them from the government’s allegation against App Annie’s alleged misuse of company data. Accordingly, it bears repeating compliance and oversight mitigate the risks arising from the use of alternative data.

• Compliance Oversight. An important first step in managing risk is to engage compliance before adopting new data sources. This means that firms should have in place a mechanism to require compliance pre-approval before a new data source is accepted.
• Policies and Procedures. While there is no requirement to have policies and procedures specifically addressing the use of alternative data, where an adviser is making significant use of such data, policies and procedures specifically addressing the risks unique to alternative data sources can be a way to demonstrate a firm’s attention to the risks of its business. Policies and procedures for the use of alternative data could encompass requirements for compliance pre-approval, as well as guidance on compliance diligence of potential data vendors, contractual protections, training of investment professionals and periodic review of the use of alternative data sources.
• Due Diligence on Data Vendors. The diligence process should be part of the compliance oversight process. The diligence process can have multiple components which may vary depending on the nature of the data, the vendor, and the variety of legal issues that might be implicated. Questions examined during the diligence process could include, for example, the original source of the data and the alternative data provider’s right to use and sell the data. If appropriate, direct questioning of vendor representatives may be appropriate in evaluating the care and robustness of a vendor’s compliance approach.
• Documentation and Record Keeping. Before finalizing an approval of the vendor, compliance may also involve documentation of certain representations and warranties to mitigate further the potential regulatory risks associated with alternative data. For example, contracts could incorporate representations concerning: (i) the vendor’s right to use and sell the data; (ii) the vendor’s compliance with relevant laws concerning the collection and use of the data; (iii) the absence of material nonpublic information or a duty of confidentiality concerning the data; (iv) the absence of personal identifying information in the data; and (v) in the case of web-scraping services, compliance with the Computer Fraud and Abuse Act and other relevant laws.
• Monitoring and Periodic Review. Given the rapidly evolving market, vendors engage in a continuous search for new sources of data and the development of better analytical insights. Accordingly, effective compliance monitoring can benefit from periodically reviewing the status of existing vendors as part of the annual compliance review, particularly if the vendor’s offerings change over time.

____________________________

   [1]   Grand View Research, Alternative Data Market Size, Share & Trends Analysis Report by Data Type (Credit & Debit Card Transactions, Social & Sentiment Data, Mobile Application Usage), By Industry, By End User, By Region, And Segment Forecasts 2021 – 2028, Report Overview (Aug. 2021), available at https://www.grandviewresearch.com/industry-analysis/alternative-data-market.

   [2]   Order Instituting Cease-and-Desist Proceedings, Securities Exchange Act of 1934 Release No. 92975 (Sept. 14, 2021).

   [3]   Bertrand Schmitt, Lessons Learned, Closing a Chapter, Sept. 14, 2021, available at https://www.linkedin.com/pulse/lessons-learned-closing-chapter-bertrand-schmitt/.

   [4]   See U.S. Securities and Exchange Commission, Office of Compliance Inspections and Examinations, 2020 Examination Priorities at 14 (OCIE 2020 Priorities), available at https://www.sec.gov/about/offices/ocie/national-examination-program-priorities-2020.pdf.

   [5]   Id.

   [6]   SEC Press Release, SEC Charges App Annie and its Founder with Securities Fraud (Sept. 14, 2021), available at https://www.sec.gov/news/press-release/2021-176.

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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 Securities Enforcement Practice Group, or the following authors:

Mark K. Schonfeld – Co-Chair, New York (+1 212-351-2433, mschonfeld@gibsondunn.com)
Richard W. Grime – Co-Chair, Washington, D.C. (+1 202-955-8219, rgrime@gibsondunn.com)
Reed Brodsky – New York (+1 212-351-5334, rbrodsky@gibsondunn.com)
Alexander H. Southwell – New York (+1 212-351-3981, asouthwell@gibsondunn.com)
Zoey G. Goldnick – New York (+1 212-351-2631, zgoldnick@gibsondunn.com)

Please also feel free to contact any of the following practice group leaders and members:

New York
Zainab N. Ahmad (+1 212-351-2609, zahmad@gibsondunn.com)
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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)
M. Kendall Day (+1 202-955-8220, kday@gibsondunn.com)
Richard W. Grime (+1 202-955-8219, rgrime@gibsondunn.com)
Jeffrey L. Steiner (+1 202-887-3632, jsteiner@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)
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)
Nicola T. Hanna (+1 213-229-7269, nhanna@gibsondunn.com)
Debra Wong Yang (+1 213-229-7472, dwongyang@gibsondunn.com)

© 2021 Gibson, Dunn & Crutcher LLP

Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

Gibson, Dunn & Crutcher LLP is pleased to announce that the Asia Pacific Loan Market Association (APLMA) has released an English law term facilities agreement template for Indonesia offshore loans, which is available in the APLMA documentation library.

Gibson Dunn’s lawyers, together with members of the APLMA Indonesian Documentation Steering Committee, worked on the drafting of the English law APLMA template for Single Borrower, Single Guarantor, Single Currency Term Facility Agreement for Indonesia Offshore Loans (the “APLMA Indonesia Template”), to help achieve a degree of consistency amongst financial institutions that lend into Indonesia and facilitate growth of the secondary market there.

The APLMA Indonesia Template not only sets out Indonesia specific provisions that typically are seen in loan documents for Indonesian cross-border transactions, such as those relating to reporting obligations owed to Bank Indonesia and Law No. 24 of 2009 relating to the use of Bahasa Indonesia, but also includes detailed notes to help template users focus on these key Indonesia related issues.  A Bahasa Indonesia version of the APLMA Indonesia Template will be published shortly.

The APLMA Indonesian Documentation Steering Committee was founded and spearheaded by Gibson Dunn partner Jamie Thomas, who chairs the committee.

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Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding the above. Please contact the Gibson Dunn lawyer with whom you usually work, or the lawyers below who worked on the drafting of the APLMA Indonesia Template:

Jamie Thomas – Singapore (+65 6507.3609, jthomas@gibsondunn.com)

U-Shaun Lim – Singapore (+65 6507.3633, ulim@gibsondunn.com)

© 2021 Gibson, Dunn & Crutcher LLP

Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

On September 17, 2021, the U.S. Treasury Department’s Office of Foreign Assets Control (“OFAC”) imposed sanctions in response to the ongoing humanitarian and human rights crisis in Ethiopia, particularly in the Tigray region of the country.[1] The new sanctions program provides authority to the Secretary of the Treasury, in consultation with the Secretary of State, to impose a wide range of sanctions for a variety of activities outlined in a new Executive Order (“E.O.”). No individuals or entities have yet been designated under the E.O. However, U.S. Secretary of State Antony Blinken has warned that “[a]bsent clear and concrete progress toward a negotiated ceasefire and an end to abuses – as well as unhindered humanitarian access to those Ethiopians who are suffering – the United States will designate imminently specific leaders, organizations, and entities under this new sanctions regime.”

This action comes on the heels of repeated calls by the United States for all parties to the conflict to commit to an immediate ceasefire as evidenced in the Department of State’s press statement on May 15, 2021, and Secretary of State Blinken’s phone call to Ethiopian Prime Minister Abiy Ahmed on July 6, 2021. Similarly, on August 3-4, 2021, U.S. Agency for International Development (“USAID”) Administrator Samantha Power traveled to Ethiopia to “draw attention to the urgent need for full and unhindered humanitarian access in Ethiopia’s Tigray region and to emphasize the United States’ commitment to support the Ethiopian people amidst a spreading internal conflict” according to a USAID press release at the time. And prior to the actions on September 17, on August 23, 2021, OFAC sanctioned General Filipos Woldeyohannes,Chief of Staff of the Eritrean Defense Forces, for engaging in serious human rights abuses under the Global Magnitsky sanctions program and condemned the violence and ongoing human rights abuses in the Tigray region of Ethiopia.

The nature and scope of this new sanctions regime suggests that the Biden administration is taking a measured, flexible, and cautious approach to the situation in Ethiopia. OFAC is able to impose sanctions measures of varying degrees of severity, without those sanctions necessarily flowing down to entities owned by sanctioned parties – which should limit ripple effects on the Ethiopian economy. Alongside the Chinese Military Companies sanctions program, this new sanctions program is one of the very few instances where OFAC’s “50 Percent Rule” does not apply, perhaps signaling a more patchwork approach to sanctions designations going forward. The decision to hold off on any initial designations is also telling, and makes clear the focus on deterrence – as opposed to punishment for past deeds. Moreover, at the outset, OFAC has issued general licenses and related guidance allowing for humanitarian activity in Ethiopia to continue. The approach here, although slightly different, is broadly consistent with the Biden administration’s handling of the situation in Myanmar, in which it has gradually rolled out sanctions designations over a period of many months and prioritized humanitarian aid in its general licenses and guidance.[2]

Menu-Based Sanctions Permit Targeted Application of Restrictions

With respect to persons or entities engaged in certain targeted activities, the E.O. permits the Department of the Treasury to choose from a menu of blocking and non-blocking sanctions measures. In keeping with recent executive orders of its kind, the criteria for designation under the E.O. are exceedingly broad. The E.O. provides that the Secretary of the Treasury, in consultation with the Secretary of State, may designate any foreign person determined:

• to be responsible for or complicit in, or to have directly or indirectly engaged or attempted to engage in, any of the following:
  • actions or policies that threaten the peace, security, or stability of Ethiopia, or that have the purpose or effect of expanding or extending the crisis in northern Ethiopia or obstructing a ceasefire or a peace process;
  • corruption or serious human rights abuse in or with respect to northern Ethiopia;
  • the obstruction of the delivery or distribution of, or access to, humanitarian assistance in or with respect to northern Ethiopia, including attacks on humanitarian aid personnel or humanitarian projects;
  • the targeting of civilians through the commission of acts of violence in or with respect to northern Ethiopia, including involving abduction, forced displacement, or attacks on schools, hospitals, religious sites, or locations where civilians are seeking refuge, or any conduct that would constitute a violation of international humanitarian law;
  • planning, directing, or committing attacks in or with respect to northern Ethiopia against United Nations or associated personnel or African Union or associated personnel;
  • actions or policies that undermine democratic processes or institutions in Ethiopia; or
  • actions or policies that undermine the territorial integrity of Ethiopia;
• to be a military or security force that operates or has operated in northern Ethiopia on or after November 1, 2020;
• to be an entity, including any government entity or a political party, that has engaged in, or whose members have engaged in, activities that have contributed to the crisis in northern Ethiopia or have obstructed a ceasefire or peace process to resolve such crisis;
• to be a political subdivision, agency, or instrumentality of the Government of Ethiopia, the Government of Eritrea or its ruling People’s Front for Democracy and Justice, the Tigray People’s Liberation Front, the Amhara regional government, or the Amhara regional or irregular forces;
• to be a spouse or adult child of any sanctioned person;
• to be or have been a leader, official, senior executive officer, or member of the board of directors of any of the following, where the leader, official, senior executive officer, or director is responsible for or complicit in, or who has directly or indirectly engaged or attempted to engage in, any activity contributing to the crisis in northern Ethiopia:
  • an entity, including a government entity or a military or security force, operating in northern Ethiopia during the tenure of the leader, official, senior executive officer, or director;
  • an entity that has, or whose members have, engaged in any activity contributing to the crisis in northern Ethiopia or obstructing a ceasefire or a peace process to resolve such crisis during the tenure of the leader, official, senior executive officer, or director; or
  • the Government of Ethiopia, the Government of Eritrea or its ruling People’s Front for Democracy and Justice, the Tigray People’s Liberation Front, the Amhara regional government, or the Amhara regional or irregular forces, on or after November 1, 2020;
• to have materially assisted, sponsored, or provided financial, material, or technological support for, or goods or services to or in support of, any sanctioned person; or
• to be owned or controlled by, or to have acted or purported to act for or on behalf of, directly or indirectly, any sanctioned person.

Upon designation of any such foreign person, the Secretary of the Treasury may select from a menu of sanctions options to implement as follows:

• the blocking of all property and interests in property of the sanctioned person that are in the United States, that hereafter come within the United States, or that are or hereafter come within the possession or control of any United States person, and provide that such property and interests in property may not be transferred, paid, exported, withdrawn, or otherwise dealt in;
• the prohibiting of any United States person from investing in or purchasing significant amounts of equity or debt instruments of the sanctioned person;
• the prohibiting of any United States financial institution from making loans or providing credit to the sanctioned person;
• the prohibiting of any transactions in foreign exchange that are subject to the jurisdiction of the United States and in which the sanctioned person has any interest; or
• the imposing on the leader, official, senior executive officer, or director of the sanctioned person, or on persons performing similar functions and with similar authorities as such leader, official, senior executive officer, or director, any of the sanctions described in (1)-(4) above.

The restrictions above not only prohibit the contribution or provision of any “funds, goods, or services to, or for the benefit of” any sanctioned person, but also the receipt of any such contribution of provision of funds, goods, or services from any sanctioned person. Those persons subject to blocking sanctions would be added to OFAC’s Specially Designated Nationals and Blocked Persons List (“SDN List”), while those subject to non-blocking sanctions would be added to the Non-SDN Menu-Based Sanctions List (“NS-MBS List”).[3]

In addition to the restrictions described above, the E.O. directs other heads of relevant executive departments and agencies to, as necessary and appropriate, to (1) “deny any specific license, grant, or any other specific permission or authority under any statute or regulation that requires the prior review and approval of the United States Government as a condition for the export or reexport of goods or technology to the sanctioned person” and (2) deny any visa to a leader, official, senior executive officer, director, or controlling shareholder of a sanctioned person.

OFAC’s “50 Percent Rule” Does Not Automatically Apply

Importantly, and unlike nearly all other sanctions programs administered by OFAC, this E.O. stipulates that OFAC’s “50 Percent Rule” does not automatically apply to any entity “owned in whole or in part, directly or indirectly, by one or more sanctioned persons, unless the entity is itself a sanctioned person” and the sanctions outlined within the E.O. are specifically applied.  OFAC makes clear in Frequently Asked Questions (“FAQs”) 923 and 924 that such restrictions do not automatically “flow down” to entities owned in whole or in part by sanctioned persons regardless of whether such persons are listed on OFAC’s SDN List  or NS-MBS List.

Parallel Issuance of New General Licenses and FAQs to Support Wide Range of Humanitarian Efforts

Recognizing the importance of humanitarian efforts to addressing the ongoing crisis in northern Ethiopia, OFAC concurrently issued three General Licenses and six related FAQs:

• General License 1, “Official Activities of Certain International Organizations and Other International Entities,” authorizes all transactions and activities for the conduct of the official business of certain enumerated international and non-governmental organizations by their employees, grantees, or contractors. FAQ 925 provides additional information on which United Nations organizations are included within this authorization.
• General License 2, “Certain Transactions in Support of Nongovernmental Organizations’ Activities,” authorizes transactions and activities that are ordinarily incident and necessary to certain enumerated activities by non-governmental organizations, including humanitarian projects, democracy-building initiatives, education programs, non-commercial development projects, and environmental or natural resource protection programs. FAQ 926 provides additional examples of the types of transactions and activities involving non-governmental organizations included within this authorization.
• General License 3, “Transactions Related to the Exportation or Reexportation of Agricultural Commodities, Medicine, Medical Devices, Replacement Parts and Components, or Software Updates,” authorizes transactions and activities ordinarily incident and necessary to the exportation or reexportation of agricultural commodities, medicine, medical devices, replacement parts and components for medical devices, and software updates for medical devices to Ethiopia or Eritrea, or to persons in third countries purchasing specifically for resale to Ethiopia or Eritrea. The authorization is limited to those items within the definition of “covered items” as stipulated in the general license, and the general license includes a note that the compliance requirements of other federal agencies, including the licensing requirements of the U.S. Department of Commerce’s Bureau of Industry and Security (“BIS”), still apply. As of this writing, licenses from BIS for exports to Ethiopia are still required for any items controlled for reasons of chemical and biological weapons (CB1 and CB2), nuclear nonproliferation (NP1), national security (NS1, NS2), missile technology (MT1), regional security (RS1 and RS2), and crime control (CC1 and CC2) unless a license exception under the Export Administration Regulations (15 C.F.R. § 730 et seq.) applies.

Concluding Thoughts and Predictions

The implementation of this new sanctions program targeting “widespread violence, atrocities, and serious human rights abuse” in Ethiopia highlights the Biden administration’s efforts to apply pressure to Ethiopian and Eritrean forces to implement a ceasefire and permit the free flow of humanitarian aid into the Tigray region. We will continue to monitor further developments to see how the Biden administration chooses to deploy the flexible tools of economic pressure that it has created. As noted, we anticipate that, based on the administration’s recent past practice, its approach to designations under the new Ethiopia-related sanctions program will be gradual and measured as opposed to sweeping. Notably, the administration’s decision to create a new sanctions program as opposed to simply designating additional individuals and entities under an existing OFAC program (such as the Global Magnitsky sanctions program) may indicate the administration’s desire to put the Ethiopian and Eritrean governments on alert before additional actions are taken. The new Ethiopian sanctions program’s broad general licenses as well as the non-application of OFAC’s “50 Percent Rule” give further support to this assessment.

Moreover, the new sanctions program appears calibrated to minimize any collateral effects on international and non-governmental organizations operating within the humanitarian aid space, and may signal that the Biden administration will include broad humanitarian allowances in new sanctions actions moving forward.

Although the Department of the Treasury had not yet designated any foreign persons pursuant to this new sanctions regime, companies considering engaging with parties in the Horn of Africa should remain abreast of any new developments and designations, as unauthorized interactions with designated persons can result in significant monetary penalties and reputational harm to individuals and entities in breach of OFAC’s regulations.

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   [1]   According to the accompanying press release from the Department of the Treasury, the imposition of new sanctions represents an escalation of the Biden administration’s efforts to hold accountable those persons “responsible for or complicit in actions or policies that expand or extend the ongoing crisis or obstruct a ceasefire or peace process in northern Ethiopia or commit serious human rights abuse.” In the same statement, the Treasury Department made clear the purpose of the E.O. was to target “actors contributing to the crisis in northern Ethiopia” and was not “directed at the people of Ethiopia, Eritrea, or the greater Horn of Africa region.”

   [2]   For more on Myanmar sanctions developments, please see our prior client alerts on February 16, 2021, and April 2, 2021.

   [3]   For more background on the NS-MBS List, please see our December 2020 client alert which discussed the designation of Republic of Turkey’s Presidency of Defense Industries (“SSB’) to the then newly created NS-MBS List. To date, SSB remains the only designee on the NS-MBS List.

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The following Gibson Dunn lawyers assisted in preparing this client update: Chris Mullen, Audi Syarief, Judith Alison Lee, Adam Smith, Stephanie Connor, Christopher Timura, Allison Lewis, 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)
Nicola T. Hanna – Los Angeles (+1 213-229-7269, nhanna@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)
Stephanie L. Connor – Washington, D.C. (+1 202-955-8586, sconnor@gibsondunn.com)
Christopher T. Timura – Washington, D.C. (+1 202-887-3690, ctimura@gibsondunn.com)
Courtney M. Brown – Washington, D.C. (+1 202-955-8685, cmbrown@gibsondunn.com)
Laura R. Cole – Washington, D.C. (+1 202-887-3787, lcole@gibsondunn.com)
Chris R. Mullen – Washington, D.C. (+1 202-955-8250, cmullen@gibsondunn.com)
Samantha Sewall – Washington, D.C. (+1 202-887-3509, ssewall@gibsondunn.com)
Audi K. Syarief – Washington, D.C. (+1 202-955-8266, asyarief@gibsondunn.com)
Scott R. Toussaint – Washington, D.C. (+1 202-887-3588, stoussaint@gibsondunn.com)
Shuo (Josh) Zhang – Washington, D.C. (+1 202-955-8270, szhang@gibsondunn.com)

Asia:
Kelly Austin – Hong Kong (+852 2214 3788, kaustin@gibsondunn.com)
Fang Xue – Beijing (+86 10 6502 8687, fxue@gibsondunn.com)
Qi Yue – Beijing – (+86 10 6502 8534, qyue@gibsondunn.com)

Europe:
Attila Borsos – Brussels (+32 2 554 72 10, aborsos@gibsondunn.com)
Nicolas Autet – Paris (+33 1 56 43 13 00, nautet@gibsondunn.com)
Susy Bullock – London (+44 (0)20 7071 4283, sbullock@gibsondunn.com)
Patrick Doris – London (+44 (0)207 071 4276, pdoris@gibsondunn.com)
Sacha Harber-Kelly – London (+44 20 7071 4205, sharber-kelly@gibsondunn.com)
Penny Madden – London (+44 (0)20 7071 4226, pmadden@gibsondunn.com)
Steve Melrose – London (+44 (0)20 7071 4219, smelrose@gibsondunn.com)
Matt Aleksic – London (+44 (0)20 7071 4042, maleksic@gibsondunn.com)
Benno Schwarz – Munich (+49 89 189 33 110, bschwarz@gibsondunn.com)
Michael Walther – Munich (+49 89 189 33-180, mwalther@gibsondunn.com)
Richard W. Roeder – Munich (+49 89 189 33-160, rroeder@gibsondunn.com)

© 2021 Gibson, Dunn & Crutcher LLP

Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

On September 9, the Supreme Court of California issued its ruling in Sandoval v. Qualcomm Inc., No. S252796, ___ Cal.5th ___. The decision is the latest in a line of cases reinforcing the strong presumption under California law that a person who hires an independent contractor delegates to the contractor all responsibility for the safety of contract workers.

In Sandoval, a contract worker hired by Qualcomm to examine electrical equipment on its campus was severely injured. He sued Qualcomm for negligence and premises liability under the theory that Qualcomm should have implemented more precautions that would have protected him from injuring himself on a live circuit. A jury found Qualcomm liable for negligently exercising control over the worksite, and the Court of Appeal affirmed the judgment.

In a unanimous opinion by Justice Cuéllar, the California Supreme Court reversed and remanded with instructions to enter judgment for Qualcomm. The Court explained that because contractors are generally hired based on their expertise and independence, there is a strong presumption that all responsibility for ensuring the safety of contract workers rests with contractors, not the hirer. And although there are exceptions to that general rule when the hirer fails to disclose a concealed hazard to the contractor or retains control over the contractor’s work and affirmatively contributes to the worker’s injury, neither of those narrow exceptions applied to this case.

I. The Court Narrowly Construes the Hooker Retained-Control Exception to the Presumption That Hirers Are Not Liable for Injuries to Contract Workers

California law recognizes a presumption that a hirer of an independent contractor delegates to the contractor all responsibility for injuries to contract workers. That rule is grounded in the principles that hirers typically do not control the work of contractors and that contractors have a greater ability to perform contracted work safely and, if necessary, can build the cost of safety measures into the contract.

There are two exceptions to this general rule. The first, not at issue in Sandoval, applies when the hirer owns or operates the property on which work occurs and fails to disclose a concealed hazard to the contractor and its workers. The second, which was at issue in Sandoval, is the “Hooker” or “retained control” exception. It permits hirer liability “if the hirer retains control over any part of the work and actually exercises that control so as to affirmatively contribute to the worker’s injury.” See id. at [p. 12]. The Court has been reluctant to add to these two exceptions; in Gonzalez v. Mathis (Aug. 19, 2021) No. S247677, ___ Cal.5th ___, decided last month, the Court declined to recognize a third exception that would have held hirers liable for injuries to contract workers from known hazards on the premises that could not be avoided through reasonable precautions.

Sandoval addresses “the meaning of Hooker’s three key concepts: retained control, actual exercise, and affirmative contribution.” Sandoval, supra, at [p. 17].

Retained control. For Hooker to apply, the hirer must “retain[] a sufficient degree of authority over the manner of performance of the work entrusted to the contractor.” Id. The hirer must “sufficiently limit the contractor’s freedom to perform the contracted work in the contractor’s own manner.”  Id. at [p. 18]. And that interference with the contractor’s work must be meaningful: A hirer can exercise a “broad general power of supervision and control”—including by maintaining a right to inspect, stop work, make recommendations, or prescribe alterations—without “retaining control” over the contracted work. Id. at [pp. 18–19]. Under that framework, the Court concluded that “Qualcomm did not retain control over the inspection merely by declining to shut down [all] circuits” or failing to let the contractor do so.  Id. at [p. 27].

Actual exercise. A hirer “actually exercises” retained control if it involves itself to such an extent that the contractor “is not entirely free to do the work in [its] own manner.” Id. at [p. 20] (citation omitted). This analysis requires a finding that the hirer “exert[ed] some influence over the manner in which the contracted work is performed,” either through “direction, participation, or induced reliance.” Id. Notably, however, the Court made clear that “actual exercise” does not require active participation by the hirer—Sandoval approvingly cited a decision applying the Hooker exception to a hirer that had merely “contractually prohibited” a contractor from undertaking certain safety measures. See id. at [p. 21 n.6]. With respect to Sandoval’s case, the Court concluded that Qualcomm did not “actually exercise” any retained control because the contractor “remained entirely free to implement (or not) any . . . precautions in its own manner,” a decision “over which Qualcomm exerted no influence.”  Id. at [p. 28].

Affirmative contribution. Finally, “affirmative contribution” requires that the hirer’s exercise of retained control “contribute[] to the injury in a way that isn’t merely derivative of the contractor’s contribution.” Id. at [p. 21]. The hirer must, in other words, “induce[]” the injury rather than merely “fail[] to prevent” it. Id. The Court also corrected two misconceptions in decisions applying Hooker. First, it clarified that both “affirmative” acts and failures to act can support liability—the relevant question is “the relationship between the hirer’s conduct and the contractor’s conduct” and whether “the hirer’s exercise of retained control contributes to the injury independently of the contractor’s contribution (if any).” Id. at [pp. 22–23]. Second, the affirmative-contribution requirement is distinct from substantial-factor causation; negligent hiring, for instance, may be a substantial factor in a contract worker’s injury, but it does not affirmatively contribute to that injury because it derives from the contractor’s negligence. Id. at [p. 23]. Applying this analysis to Sandoval’s case, the Court held that even if Qualcomm had exercised some form of retained authority by leaving protective covers over live circuits, those actions did not “affirmatively contribute” to the contractor’s injuries—that conduct, the Court explained, had no role in the contractor’s decision to open the protective cover. Id. at [p. 29].

II. Implications of the Court’s Decision

Gonzalez and Sandoval both demonstrate that the California Supreme Court is committed to preserving the presumption that hirers aren’t liable for injuries to contract workers and will not lightly expand or broadly construe exceptions to that general rule. Gonzalez rejected a plaintiff’s effort to add a new exception, and Sandoval reinforces the narrowness of the existing exceptions. By clarifying that hirers must actually exercise any retained authority and affirmatively contribute to a contract worker’s injury before facing liability under Hooker, Sandoval sends a strong signal to businesses that they can hire independent contractors, set general guidelines, and maintain some supervisory authority over the contractors’ work without exposing themselves to potential liability.

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Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding developments at the California Supreme Court, or in state or federal appellate courts in California. Please feel free to contact the following lawyers in California, or any member of the Appellate and Constitutional Law Practice Group.

Theodore J. Boutrous, Jr. – Los Angeles (+1 213-229-7000, tboutrous@gibsondunn.com)
Julian W. Poon – Los Angeles (+1 213-229-7758, jpoon@gibsondunn.com)
Theane Evangelis – Los Angeles (+1 213-229-7726, tevangelis@gibsondunn.com)
Bradley J. Hamburger – Los Angeles (+1 213-229-7658, bhamburger@gibsondunn.com)
Michael Holecek – Los Angeles (+1 213-229-7018, mholecek@gibsondunn.com)
Daniel R. Adler – Los Angeles (+1 213-229-7634, dadler@gibsondunn.com)
Ryan Azad – San Francisco (+1 415-393-8276, razad@gibsondunn.com)
Matt Aidan Getz – Los Angeles (+1 213-229-7754, mgetz@gibsondunn.com)

© 2021 Gibson, Dunn & Crutcher LLP

Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

For the sixth successive Congress, Gibson Dunn is pleased to release a table of authorities summarizing the investigative authorities of each House and Senate committee. Understanding the full extent of a committee’s investigative arsenal is crucial to successfully navigating a congressional investigation.

Congressional committees have broad investigatory powers. These authorities include the power to issue subpoenas to compel witnesses to produce documents, testify at committee hearings, and, in some cases, appear for depositions. Committees generally may adopt their own procedural rules for issuing subpoenas, taking testimony, and conducting depositions; in the House, general deposition procedures applicable to all committees are subject to regulations issued by the Chair of the Committee on Rules. In addition to the rules included in our Table of Authorities, committees also are subject to the rules of the full House or Senate.

The failure to comply with a subpoena and adhere to committee rules during an investigation may have severe legal, strategic, and reputational consequences. Indeed, if a subpoena recipient refuses to comply with a subpoena adequately, committees may resort to additional demands, initiate contempt proceedings and/or generate negative press coverage of the noncompliant recipient. Although rarely utilized, criminal contempt prosecutions can also be brought in the event of willful refusals to comply with lawful congressional subpoenas. As we have detailed in a prior client alert this year, however, defenses exist to congressional subpoenas, including challenging a committee’s jurisdiction, asserting attorney-client privilege and work product claims, and raising constitutional challenges.[1]

We have highlighted noteworthy changes in the committee rules below, which House and Senate Committees of the 117th Congress adopted earlier this year.

Some items of note:

House:

• Pursuant to the House Rules of the 117th Congress, every House committee chair of a standing committee, as well as the Chair of the Permanent Select Committee on Intelligence, is empowered to issue deposition subpoenas unilaterally, that is, without the Ranking Member’s consent or a committee vote, after “consultation” with the Ranking Member.[2]
• In the 116th Congress, the House eliminated a prior requirement that one or more members of Congress be present during a deposition.[3] The House rules for the 117th Congress likewise do not require a member to be present for a deposition.[4] Without having to accommodate members’ schedules, these provisions make taking depositions significantly easier.
• The Rules of the 117th Congress have reauthorized two oversight select committees, the Select Committee on the Climate Crisis and the Select Subcommittee on the Coronavirus Crisis, which will proceed with the mandates they were provided in the prior Congress.[5] The Rules also created the bipartisan Select Committee on Economic Disparity and Fairness in Growth, established by House Democrats to “investigate, study, make findings, and develop recommendations on policies, strategies, and innovations to make our economy work for everyone, empowering American economic growth while ensuring that no one is left out or behind in the 21st Century Economy.”[6] Recently, House Democrats also established the Select Committee to Investigate the January 6th Attack on the United States Capital, which is directed “[t]o investigate and report upon the facts, circumstances, and causes relating to the January 6, 2021, domestic terrorist attack upon the United States Capitol Complex . . . and relating to the interference with the peaceful transfer of power.”[7]
  • Note that while the Select Committee on Economic Disparity and Fairness in Growth lacks independent subpoena power, it may request standing committees with appropriate jurisdiction to issue them. The Select Committee on the Coronavirus Crisis and the Select Committee to Investigate the January 6th Attack on the United States Capitol have subpoena power; staff deposition authority, enforceable by subpoena; and the authority to issue interrogatories enforceable by subpoena. Hence, they have more investigative tools at their disposal than do standing House committees.
• The House Rules Committee has reissued regulations instituted in the 116th Congress governing depositions by committee counsel. Of note, these rules allow for the immediate overruling of objections raised by a witness’s counsel and immediate instructions to answer, on pain of contempt.[8] As a result, this procedure seemingly eliminates the witness’s right to appeal rulings on objections to the full committee without risking contempt (although committee members may still appeal). This procedure was intended to streamline the deposition process, as prior to the 116th Congress, the staff deposition regulations required a recess before the Chair could rule on an objection. The Rules Committee’s deposition regulations also expressly allow for depositions to continue from day-to-day[9] and permit, with notice from the Chair, questioning by members and staff of more than one committee.[10] Objections from staff counsel or members are also permitted, not just by the witness and his or her lawyer.[11]
• As the COVID pandemic continues, the House Rules Committee has adopted special regulations governing remote hearings, which were first authorized in the prior Congress.[12] The regulations address several practical considerations, including a mandate that members “must be visible on the [remote] software platform’s video function to be considered in attendance and to participate unless connectivity issues or other technical problems render the member unable to fully participate on camera” and that “[m]embers and witnesses participating remotely should appear before a nonpolitical, professionally appropriate background that is minimally distracting to other members and witnesses, to the greatest extent possible.” The rules also require committee chairs to “respect members’ disparate time zones when scheduling committee proceedings,” meaning few remote hearings will be scheduled before midday, Eastern Standard Time. The regulations also authorize remote depositions in accordance with the same rules and procedures as required for in-person depositions.[13]

Senate:

• In contrast to the House, where virtually every chair has unilateral subpoena authority, only the Chair of the Permanent Subcommittee on Investigations (“PSI”) can issue a subpoena without the consent of the Ranking Member. With the exception of PSI, the rules of the remaining Senate Committees allow for the Ranking Member to object to a subpoena issuance within a specified timeframe of receiving notice from the Chair, requiring a majority vote to issue a subpoena. In prior Congresses, the minority at times used the majority vote requirement as a delaying tactic, but rarely ever prevented a subpoena issuance since the vote would proceed along party lines. However, the majority vote requirement assumes greater significance this Congress given the Senate’s 50-50 split and power-sharing agreement between the parties. The agreement provides that each Committee must be equally composed of Democrats and Republicans, meaning a party-line vote on a subpoena issuance would result in a deadlock. Senate procedure permits a motion to discharge a “measure or matter,” which we believe would include a subpoena, but we think this procedure would be employed only in extraordinary cases. Hence, investigations that require the issuance of subpoenas likely will need to be bipartisan.
• As in the last Congress, seven Senate committees have received express authorization to take depositions. The Judiciary Committee and the Committee on Homeland Security and Governmental Affairs and its Permanent Subcommittee on Investigations receive the authority to do so each Congress from the Senate’s funding resolution.[14] The Aging and Indian Affairs Committees are authorized to conduct depositions by S. Res. 4 in 1977. The Ethics Committee’s deposition power is authorized by S. Res. 338 in 1964, which created the Committee and is incorporated into its rules each Congress. And the Intelligence Committee was authorized to take depositions by S. Res. 400 in 1976, which it too incorporates into its rules each Congress. Of these, staff is expressly authorized to take depositions except in the Indian Affairs and Intelligence Committees.[15] The Senate’s view appears to be that Senate Rules do not authorize staff depositions pursuant to subpoena. Hence, Senate committees cannot delegate that authority to themselves through committee rules. It is thus understood that such authority can be conferred upon a committee only through a Senate resolution.[16]
• The Committees on Agriculture, Commerce, and Foreign Relations authorize depositions in their rules. However such deposition authority has not been expressly authorized by the Senate and, hence, it is not clear whether appearance at a deposition can be compelled.
• The Judiciary Committee remains the only committee to expressly require a member to be present for a deposition. This requirement may be waived by agreement of the Chair and Ranking Member. In addition, the Rules of the Select Committee on Intelligence require a quorum of one member for purposes of taking sworn testimony, but it is not specified whether this would include depositions.

Our table of authorities provides an overview of how individual committees can compel a witness to cooperate with their investigations. But each committee conducts congressional investigations in its own particular way, and investigations vary materially even within a particular committee. While our table of authorities provides a general overview of what rules apply in given circumstances, it is essential to look carefully at a committee’s rules and be familiar with its practices to understand specifically how its authorities apply in a particular context.

Gibson Dunn lawyers have extensive experience defending targets of and witnesses in congressional investigations. They know how investigative committees operate and can anticipate strategies and moves in particular circumstances because they also ran or advised on congressional investigations when they worked on the Hill. If you have any questions about how a committee’s rules apply in a given circumstance or the ways in which a particular committee tends to exercise its authorities, please feel free to contact us for assistance.  We are available to assist should a congressional committee seek testimony, information or documents from you.

Table of Authorities of House and Senate Committees:

https://www.gibsondunn.com/wp-content/uploads/2021/08/Congressional-Investigations-Table-of-Authorities-117th-Congress-09.21.pdf

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[1] See Congressional Investigations in the 117th Congress: Choppy Waters Ahead for the Private Sector?, https://www.gibsondunn.com/congressional-investigations-in-the-117th-congress-choppy-waters-ahead-for-the-private-sector/.

[2] See H.R. Res. 8, 117th Cong. § 3(b)(1) (2021).

[3] See H.R. Res. 6, 116th Cong. § 103(a)(1) (2019).

[4] See H.R. Res. 8, 117th Cong. § 3(b) (2021).

[5] Id. §§ 4(d), (f).

[6] Id. § 4(d)(g).

[7]  See H. R. Res. 503, § 3(1), 117th Cong. (2021).

[8] See 167 Cong. Rec. H41 (Jan. 4, 2021) (117th Congress Regulations for Use of Deposition Authority).

[9] Id.  The regulations provide that deposition questions “shall be propounded in rounds” and that the length of each round “shall not exceed 60 minutes per side” with equal time to the majority and minority. The regulations, however, do not expressly limit the number of rounds of questioning. In this manner, they differ from the Federal Rules of Civil Procedure which expressly limit the length of depositions. See Fed. R. Civ. P. 30(d)(1) (“Unless otherwise stipulated or ordered by the court, a deposition is limited to 1 day of 7 hours.”).

[10] See 167 Cong. Rec. H41.

[11] Id.

[12] Id.

[13] Id.

[14] See S. Res. 70, § 13(e) (2019) (Judiciary); id. § 12(e)(3)(E) (Homeland Security).

[15] However, Rule 8.3 of the Rules of the Senate Intelligence Committee allows staff to question witnesses if authorized by the Chair, Vice Chair, or Presiding Member, though depositions are not specified.

[16] See Jay R. Shampansky, Cong. Research Serv., 95-949 A, Staff Depositions in Congressional Investigations 8 & n.24 (1999); 6 Op. O.L.C. 503, 506 n.3 (1982). The OLC memo relies heavily on the argument that the Senate Rules never mentioned depositions at that time and those rules still do not mention depositions today.

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The following Gibson Dunn attorneys assisted in preparing this client update: Michael D. Bopp, Thomas G. Hungar, Roscoe Jones, Jr., Tommy McCormac, and Amanda LeSavage.

Gibson, Dunn & Crutcher’s lawyers are available to assist in addressing any questions you may have regarding these issues. Please contact the Gibson Dunn lawyer with whom you usually work or the following lawyers in the firm’s Congressional Investigations group in Washington, D.C.:

Michael D. Bopp – Chair, Congressional Investigations Group (+1 202-955-8256, mbopp@gibsondunn.com)
Thomas G. Hungar (+1 202-887-3784, thungar@gibsondunn.com)
Roscoe Jones, Jr. (+1 202-887-3530, rjones@gibsondunn.com)

© 2021 Gibson, Dunn & Crutcher LLP

Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

Since the collapse of the Afghan government and the Taliban’s takeover of Kabul more than three weeks ago, tens of thousands of Afghans, along with U.S. citizens and U.S. permanent residents, have desperately tried to flee the country and the Taliban’s oppressive rule. This humanitarian crisis continued to worsen as the emergency evacuation operation ran up against the deadline of U.S. withdrawal on August 31, 2021. Some of the most vulnerable Afghans at risk of imminent harm from the Taliban include those who previously supported the U.S. military or government, promoted democracy in Afghanistan, or worked on behalf of women’s rights, as well as members of ethnic and religious minorities. As of today, thousands of Afghans continue to search for safe pathways out of the country.

Over the past few weeks, Gibson Dunn sprang into action to help individuals at heightened risk of Taliban reprisals evacuate to safety. Section I of this report briefly summarizes some of the events on the ground in Afghanistan, with a particular focus on the humanitarian crisis that has resulted from recent developments. Section II highlights the Firm’s efforts, which are still ongoing and evolving to meet the rapidly changing situation in Afghanistan and across the globe. Understanding that many families are in urgent need of short-term evacuation from Afghanistan as well as long-term immigration relief, our teams are taking a holistic approach that focuses both on helping at-risk individuals pursue pathways to enter the United States as expeditiously as possible and on identifying ways they can obtain lawful immigration status in the United States on a permanent basis. Additional information detailing several avenues of legal relief—humanitarian parole, Special Immigrant Visas (“SIVs”), refugee resettlement, and asylum—can be found in Section III of this report. If you are interested in learning more about these efforts or how to get involved, please reach out to Katie Marquart, Partner & Pro Bono Chair.

I.   Overview of the Current Situation in Afghanistan

The United States completed its military withdrawal ahead of its August 31 deadline, which had been set pursuant to an agreement with the Taliban signed in February 2020. Since the evacuation operation began on August 14, more than 123,000 people, most of them Afghans, have been evacuated, according to the U.S. government. But thousands more have been left behind, including Afghan interpreters and others who worked directly alongside U.S. military and government officials. In acknowledging that it did not get everyone out of the country that it wanted to, the United States has promised to find other ways for individuals to leave Afghanistan that do not require a U.S. military presence.

Even before the withdrawal of troops, the Taliban made it more difficult for civilians to flee the country and find safe harbor by erecting checkpoints and controlling access to Hamid Karzai International Airport and Afghanistan’s land borders. Those who were able to reach the airport faced additional dangers of being crushed by crowds, abused by the Taliban, and targeted by terrorist attacks like the August 26 ISIS-K suicide attack that killed nearly 200 people.

With U.S. and allied forces now gone, the road to safety has gotten even more challenging. Despite this, thousands of people are continuing to search for pathways to safety. Gibson Dunn will not stop working on behalf of these families. Rather, we will pursue all legal avenues to ensure that Afghans eligible to travel to another country will be not be turned away.

II.   Gibson Dunn’s Efforts on Behalf of Affected Families

More than 100 Gibson Dunn attorneys and staff are working on the cases of dozens of families—well over 200 people—seeking refuge in the United States to escape the Taliban regime. These families, like many others, face a heightened risk of persecution, physical violence, and even death because of their collaboration with the U.S. military or government, their work to promote the Afghan government and civil society, or their public support for causes seen as antithetical to the Taliban’s rule.

These families’ stories are incredibly compelling. Several were interpreters for the U.S. military, including for Gibson Dunn associates who previously served in the U.S. military, while others were members of the Afghan military and Afghan National Police working alongside U.S. forces in hostile regions. Others are women and children whose husbands and fathers already immigrated to the United States on SIVs to begin building a home for their families. Some are pregnant or have infants and small children. Some are being targeted because they were journalists, open critics of the Taliban, or female professionals. Many of our clients already have faced threats and physical abuse at the hands of the Taliban, while others are being actively hunted by the Taliban. Although many of these families initially wished to remain in Afghanistan to help rebuild their home country, recent developments made them face the difficult reality that they had to leave.

The danger these families face cannot be overstated. A handful of families were able to safely escape before the American withdrawal, but many remain in hiding. Some families have abandoned their houses and are now homeless with limited, dwindling resources—and no way of supporting themselves given their need to stay hidden and evade the Taliban’s attention. Many are afraid the internet will be cut at any time, leaving them without any lifeline outside the country. Most can only communicate at certain times of the day, when there is less risk the Taliban will find them and search their phones for U.S. phone numbers or English messages. All are afraid the Taliban will find them and their families before they can escape.

In light of the severe risks and the urgency of these families’ need to travel to the United States, we have advocated for our clients using every avenue at our disposal. We have called on members of Congress, the State Department, the Department of Defense, and the Department of Homeland Security, as well as former government officials, to seek their help and insight. We gathered intelligence from teams on the ground to notify our clients of critical information in real time. While the United States remained in Afghanistan, we were also able to connect our clients inside the airport with U.S.-sponsored non-governmental organizations (“NGOs”) coordinating flights to ensure they were placed on manifests when possible.

Although the current situation is dire, we continue to fight for those who remain in Afghanistan until they can find their way to safety. This includes helping our corporate clients whose employees and representatives in Afghanistan similarly have found themselves in need of immediate assistance to escape persecution and leave the country. We have provided round-the-clock assistance to help our corporate clients navigate legal challenges in carrying out emergency on-the-ground actions related to their evacuation efforts and measures to ensure employee safety.

Our pro bono efforts thus far have largely focused on filing humanitarian parole applications to help families at risk of Taliban reprisals enter the United States on a temporary basis.  Although our current focus is on helping these families reach safety outside Afghanistan, we also hope to assist with their long-term immigration cases upon arrival in the United States.  Many of these families are eligible for SIVs or other priority visas and currently are awaiting resolution of their applications. The rest intend to apply for asylum upon their arrival in the United States. In the short term, however, we believe humanitarian parole remains the best chance for many of these families to gain authorization to travel to the United States.

III.   Avenues of Legal Relief in the United States for Afghans Fleeing the Taliban

As we look ahead to what is to come, Gibson Dunn is eager to help provide access to the various forms of legal relief available to help these brave families. Although many logistical and safety challenges will persist, we are committed to doing what we can to help these courageous families navigate the legal pathways to obtaining temporary or permanent safe harbor in the United States or in other countries around the world. To date, most of our efforts have focused on resettlement into the United States. For that reason, we focus here on those avenues, which include: humanitarian parole for individuals facing urgent humanitarian needs; SIVs for those who worked for U.S. forces in Afghanistan; refugee admission under the P-1, P-2, and P-3 programs for certain Afghans who remain outside the United States; and asylum for those who arrive in the United States and are unable to return to Afghanistan.

A.   Humanitarian Parole

Humanitarian parole is an option for temporary resettlement in the United States based on urgent humanitarian or significant public benefit needs. Under INA § 212(d)(5), the Secretary of Homeland Security “may, in his or her discretion, parole into the United States temporarily . . . on a case by case basis, for urgent humanitarian reasons or significant public benefit, any alien applying for admission to the United States.” Although it is typically an extraordinary measure, humanitarian parole may be the most direct pathway for many Afghans to enter the United States, given the current situation in Afghanistan.

Because individuals can seek humanitarian parole for “urgent humanitarian reasons or significant public benefit,” it is available to Afghan nationals who would not otherwise qualify for entry via SIV or the U.S. Refugee Admissions Program (“USRAP”), discussed below. For example, humanitarian parole is an important option for those who worked for the Afghan government, collaborated with U.S. forces without meeting the stringent SIV employment requirements, or otherwise are in danger due to their beliefs or minority status. It also might be a more expeditious option for those who may qualify for SIV or USRAP resettlement, but who face such urgent danger that they cannot wait to be processed through those more traditional pathways. To reduce the processing time, applicants can request “expedited processing” in urgent, life-threatening situations. Given the exponential increase in the number of humanitarian parole applications filed in recent weeks, however, it is difficult to predict how long it will take to adjudicate these applications.

Afghans facing persecution by the Taliban can apply for humanitarian parole for themselves, without depending on a referral or support from an employer or other entity. Alternately, individuals in the United States, including SIV holders, can submit a petition for humanitarian parole on behalf of Afghans currently outside the United States. In either case, a financial sponsor with lawful immigration status in the United States must submit an affidavit agreeing to sponsor the parolee(s) upon arrival in the United States. If approved, parolees are permitted to enter the United States for a specified period of time (typically one year). Once in the United States, parolees can apply for asylum or obtain permanent residence through other lawful means.

B.   Special Immigrant Visa

Recognizing the danger our Afghan allies faced due to their work with U.S. forces, Congress created the SIV programs in 2006 and 2009 to allow certain Afghans to resettle in the United States as legal permanent residents with access to resettlement assistance and other benefits. Afghan nationals who were employed by or on behalf of the U.S. government in Afghanistan, or those who served as interpreters or translators for U.S. military personnel or under Chief of Mission Authority at the U.S. Embassy in Baghdad or Kabul, may be eligible for SIVs. However, the SIV application process often takes many years—time that many Afghan allies no longer have.

There are two SIV programs for which Afghan allies, including their spouses and children under age 21, might be eligible. First, a limited number of SIVs is available under Section 1059. To qualify, an Afghan must have worked directly with U.S. forces or the Chief of Mission authority as a translator/interpreter for at least one year and must obtain a favorable recommendation from a General or Flag Officer in their chain of command or at the embassy where they worked. Second, and more commonly, Afghans can apply for SIVs under Section 602(b) if they (1) were employed for at least one year by the U.S. government, a U.S. government contractor, or the International Security Assistance Force working with U.S. forces; (2) provided faithful and valuable service; and (3) face an ongoing serious threat because of their qualifying work.

C.   The U.S. Refugee Admissions Program

Afghan nationals also may enter the United States through USRAP, which provides an opportunity for permanent resettlement in the Unites States to various classes of refugees. As a general rule, individuals seeking resettlement as refugees must be outside the United States and go through processing in a third country, rather than within their country of nationality.

• P-1 Refugees: The first of three categories under USRAP, Priority 1, is for individuals who have been referred by an Embassy, a designated NGO, or the United Nations High Commissioner for Refugees (“UNHCR”), due to the applicant’s circumstances and need for resettlement. Typically, P-1 refugees are referred to the United States by UNHCR.
• P-2 Refugees: Priority 2 designations are given to individuals the Department of State determines to be part of a group of “special concern” due to their circumstances and need for resettlement. In August 2021, the Department of State announced that certain Afghan nationals and their family members who are at risk due to their affiliation with the United States may be eligible for refugee resettlement under the P-2 program. Eligible individuals could include Afghans who (1) did not meet the minimum time-in-service for an SIV but who otherwise would be eligible for an SIV; (2) worked for a U.S. government-funded program or project supported through a U.S. government grant; or (3) were employed by U.S.-based media organizations or NGOs in Afghanistan. Spouses and children of any age, whether married or unmarried, also can resettle in the United States with someone who has been given a P-2 designation. Although many Afghans might be eligible for resettlement under the P-2 program, there are two significant challenges. First, Afghans seeking refugee resettlement under the P-2 program must be referred by their employer; they cannot apply for themselves. Second, the State Department has not yet explained how or where processing, which includes interviews and security checks, will occur.
• P-3 Refugees: The third refugee designation, Priority 3, provides an opportunity for permanent resettlement for Afghan refugees outside Afghanistan who have immediate family members (i.e., spouses, parents, and children) who already have been admitted to the United States. The family member in the United States must file within five years of the date when they were admitted as a refugee or special immigrant, or granted asylum.

D.   Asylum

In addition to these more extraordinary pathways, Afghans also may pursue more traditional avenues of immigration relief in the United States, such as family-based visas and asylum.  Asylum, in particular, likely will be the next step for many Afghans who enter the United States via humanitarian parole. Like other immigrants, Afghans can apply for asylum if they fear persecution based on race, religion, nationality, political opinion, or membership in a particular social group. They can do so upon entry in the United States or within one year of entering the country.

IV.   Conclusion

We understand that there is a long road ahead, and that the process of reaching physical safety is just beginning for many individuals and families facing the threat of violence from the Taliban. We will continue to fight for short- and long-term immigration solutions on behalf of these brave individuals and families, using every avenue at our disposal. Gibson Dunn also is engaging in broader efforts to assist these individuals and families as they resettle in countries across the globe. We hope these efforts, together with the work of so many other organizations that have pulled together to help evacuate and resettle vulnerable Afghans, will remind our Afghan allies that they are not forgotten, and that they have many advocates fighting for them.

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Gibson Dunn lawyers are available to assist in addressing any questions you may have about these developments. Please contact the Gibson Dunn lawyer with whom you usually work or the following:

Katie Marquart – New York (+1 212-351-5261, kmarquart@gibsondunn.com)
Patty Herold – Denver (+1 303-298-5727, pherold@gibsondunn.com)

© 2021 Gibson, Dunn & Crutcher LLP

Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.