Stacy Mitchell, Author at Gibson Dunn

From the Derivatives Practice Group: This week, the Hong Kong Monetary Authority and Financial Services and the Treasury Bureau published the Consultation Conclusions on the Legislative Proposal to Implement the Regulatory Regime for Stablecoin Issuers in Hong Kong.

New Developments

President Biden Announced Intent to Nominate Julie Brinn Siegel as a Commissioner of the CFTC. On July 11, President Biden announced his intent to nominate Julie Brinn Siegel to be a Commissioner of the CFTC. Siegel currently serves as the federal government’s deputy chief operating officer as Senior Coordinator for Management at the Office of Management and Budget (OMB). Prior to that, Siegel served as Secretary of the Treasury Janet Yellen’s Deputy Chief of Staff and served as Senior Counsel and Policy Advisor to U.S. Senator Elizabeth Warren (D-MA). Last month, President Biden nominated CFTC Commissioner Johnson to be Assistant Secretary for Financial Institutions at the Department of Treasury and nominated CFTC Commissioner Christy Goldsmith Romero to be Chair and Member of the Federal Deposit Insurance Corporation (FDIC) which, if confirmed by the Senate, would leave open two Democratic Commissioner seats at the CFTC. Siegel, if nominated and confirmed by the Senate, would take the seat of Commissioner Goldsmith Romero.
First Interagency Fraud Disruption Conference Focuses on Combatting Crypto Schemes Commonly Known as “Pig Butchering.” On July 11, the CFTC and the DOJ’s Computer Crime and Intellectual Property Section’s National Cryptocurrency Enforcement Team (“NCET”) convened the first Fraud Disruption Conference to work on efforts to combat a type of fraud commonly known as “pig butchering”. It is estimated that Americans are scammed out of billions per year, making this a top law enforcement priority. The working group addressed strategies to prevent victimization; using technology to disrupt the fraud; and collaboration on enforcement efforts. Several agencies also collaborated on an anti-victimization messaging campaign to warn Americans to remain vigilant against emerging fraud threats.
Supreme Court Overrules Chevron, Sharply Limiting Judicial Deference To Agencies’ Statutory Interpretation. On June 28, the Supreme Court overruled Chevron v. Natural Resources Defense Council, a landmark decision that had required courts to defer to agencies’, including the CFTC’s, reasonable interpretations of ambiguous statutory terms. For a more detailed analysis of the ruling please refer to Gibson Dunn’s client alert, available here.
CFTC Announces Supervisory Stress Test Results. On July 1, the CFTC issued Supervisory Stress Test of Derivatives Clearing Organizations: Reverse Stress Test Analysis and Results, a report detailing the results of its fourth Supervisory Stress Test (“SST”) of derivatives clearing organization (“DCO”) resources. Among other findings, the 2024 report concluded the DCOs studied hold sufficient financial resources to withstand many extreme and often implausible price shocks. The purpose of the analysis was twofold: (1) to identify hypothetical combinations of extreme market shocks, concurrent with varying numbers of clearing member (“CM”) defaults, that would exhaust prefunded resources (DCO committed capital, and default fund), and unfunded resources available to the DCOs (this represents the reverse stress test component), and (2) to analyze the impacts of DCO use of mutualized resources on non-defaulted CMs.

New Developments Outside the U.S.

ESAs Establish Framework to Strengthen Coordination in Case of Systemic Cyber Incidents. On July 17, the European Supervisory Authorities (“ESAs”) announced they will establish the EU systemic cyber incident coordination framework (“EU-SCICF”), in the context of the Digital Operational Resilience Act (“DORA”), that will aim to facilitate an effective financial sector response to a cyber incident that poses a risk to financial stability, by strengthening the coordination among financial authorities and other relevant bodies in the European Union, as well as with key actors at international level. [NEW]
ESAs Publish Second Batch of Policy Products under DORA. On July 17, the ESAs published the second batch of policy products under DORA. This batch consists of four final draft regulatory technical standards, one set of Implementing Technical Standards and 2 guidelines, all of which aim at enhancing the digital operational resilience of the EU’s financial sector. [NEW]
Hong Kong HKMA and FSTB Publishes Results from Stablecoin Consultation. On July 17, 2024, the Hong Kong Monetary Authority (“HKMA”) and Financial Services and the Treasury Bureau (“FSTB”) published the Consultation Conclusions on the Legislative Proposal to Implement the Regulatory Regime for Stablecoin Issuers in Hong Kong (“Consultation Conclusions”). The Consultation Conclusions outlined the legislative proposal to implement a regulatory regime for fiat-referenced stablecoin (“FRS”) issuers in Hong Kong. The regime will primarily focus on representations of value which rest on ledgers that are operated in a decentralized manner in which no person has the unilateral authority to control or materially alter its functionality or operation. Under this regime, FRS issuers will require a license. Foreign entities intending to apply for a license will be required to establish a Hong Kong subsidiary and have key management personnel in the territory. [NEW]
ESMA Consults on Firms’ Order Execution Policies Under MiFID II. On July 16, ESMA launched a consultation on draft technical standards specifying the criteria for how investment firms establish and assess the effectiveness of their order execution policies. The objective of the proposed technical standards is to foster investor protection by enhancing investment firms’ order execution. [NEW]
ESMA Publishes 2023 Data on Cross-Border Investment Activity of Firms. On July 15, ESMA announced they completed an analysis of the cross-border provision of investment services during 2023. The main findings include that a total of around 386 firms provided services to retail clients on a cross-border basis in 2023; compared to 2022, the cross-border market for investment services grew by 1.6% in terms of firm numbers, and by 5% in terms of retail clients, while the number of complaints increased by 31%; and Germany, France, Spain, and Italy are the most significant destinations (in terms of number of retail clients) for investment firms providing cross-border services in other Member States. [NEW]
ESAs Consult on Guidelines under the Markets in Crypto-Assets Regulation. On July 12, the ESAs published a consultation paper on Guidelines under Markets in Crypto-assets Regulation (“MiCA”), establishing templates for explanations and legal opinions regarding the classification of crypto-assets along with a standardized test to foster a common approach to classification.
ESAs Report on the Use of Behavioral Insights in Supervisory and Policy Work. On July 11, the ESAs published a joint report following their workshop on the use of behavioral insights by supervisory authorities in their day-to-day oversight and policy work. The report provides a high-level overview of the main topics discussed during the workshop held in February 2024 for national supervisors and other competent authorities, where participants explored the added value of behavioral insights in their work by exchanging their experiences and discussing the challenges they face.
ESMA Publishes the 2024 ESEF Reporting Manual. On July 11, ESMA published the update of its Reporting Manual on the European Single Electronic Format (“ESEF”) supporting a harmonized approach for the preparation of annual financial reports. ESMA has also updated the Annex II of the Regulatory Technical Standards (“RTS”) on ESEF.
ESMA Publishes Statement on Use of Collateral by NFCs Acting as Clearing Members. On July 10, ESMA issued a public statement on deprioritizing supervisory actions linked to the eligibility of uncollateralized public guarantees, public bank guarantees, and commercial bank guarantees for Non-Financial Counterparties (“NFCs”) acting as clearing members, pending the entry into force of EMIR 3.
ESMA Launches New Consultations. On July 10, ESMA published a new package of public consultations with the objective of increasing transparency and system resilience in financial markets, reducing reporting burden and promoting convergence in the supervisory approach.
ESMA Consults on Rules to Recalibrate and Further Clarify the Framework. On July 9, ESMA launched new consultations on different aspects of the Central Securities Depositories Regulation (“CSDR”) Refit. The proposed rules relate to the information to be provided by European CSDs to their national competent authorities (“NCA”s) for the review and evaluation, the information to be notified to ESMA by third-country CSDs, and the scope of settlement discipline.
ESMA Consults on Liquidity Management Tools for Funds. On July 8, ESMA announced it is seeking input on draft guidelines and technical standards under the revised Alternative Investment Fund Managers Directive (“AIFMD”) and the Undertakings for Collective Investment in Transferable Securities (“UCITS”) Directive. Both Directives aim to mitigate potential financial stability risks and promote harmonization of liquidity risk management in the investment funds sector.
ESMA Consults on Reporting Requirements and Governance Expectations for Some Supervised Entities. On July 8, ESMA launched two consultations on proposed guidance for some of its supervised entities. The consultations are aimed at the following entities supervised by ESMA: Benchmark Administrators, Credit Rating Agencies, and Market Transparency Infrastructures. The Consultation Paper sets out the information ESMA expects to receive and a timeline for supervised entities to provide the required information. The objective of the Draft Guidelines is to ensure consistency in cross-sectoral reporting.
ESMA Puts Forward Measures to Support Corporate Sustainability Reporting. On July 5, ESMA published a Final Report on the Guidelines on Enforcement of Sustainability Information (“GLESI”) and a Public Statement on the first application of the European Sustainability Reporting Standards (“ESRS”). ESMA reports that these documents will support the consistent application and supervision of sustainability reporting requirements.
ESMA Releases New MiCA Rules To Increase Transparency for Retail Investors. On July 4, ESMA published the second Final Report under the Markets in Crypto-Assets Regulation (MiCA) covering eight draft technical standards that aim to provide more transparency for retail investors, clarity for providers on the technical aspects of disclosure and record-keeping requirements, and data standards to facilitate supervision by National Competent Authorities (“NCAs”). The report covers public disclosures, as well as descriptions on how issuers should disclose price-sensitive information to the public to prevent market abuses, such as insider dealing.
ESMA Reappoints Three Members to its Management Board. On July 4, ESMA announced that it has reappointed three current members to its Management Board. The appointments took place at the Board of Supervisors meeting on July 3. The Management Board, chaired by Verena Ross, Chair of ESMA, is responsible for ensuring that the Authority carries out its mission and performs the tasks assigned to it under its founding Regulation.

New Industry-Led Developments

ISDA Publishes Whitepaper: Hedge Accounting Under US GAAP. On July 16, ISDA published a whitepaper that explores the issues faced by financial and non-financial institutions in applying hedge accounting for interest rate risk, foreign exchange risk and other risks. It highlights both the prescriptive nature of Accounting Standards Codification 815 and the inconsistent interpretations among auditors, which together create operational burdens and can limit hedging strategies. The paper proposes potential solutions to these challenges, including the expansion of hedge eligibility and the revision of hedge accounting criteria, to allow better use of existing risk management tools. [NEW]
ISDA and SIFMA Submit Addendum on GIRR Curvature to US Basel III NPR. On July 15, ISDA and the Securities Industry and Financial Markets Association (“SIFMA”) submitted an addendum to the joint US Basel III “endgame” notice of proposed rulemaking. The addendum contains a proposal for general interest rate risk (“GIRR”) curvature to fix an issue that was recently identified. [NEW]
ISDA Chief Executive Officer Scott O’Malia Offers Informal Comments on Terminating Derivatives Contracts. On July 15, ISDA CEO Scott O’Malia opined on the process to terminate a derivatives contract. ISDA is developing wo initiatives – the ISDA Close-out Framework and the ISDA Notices Hub – that will help ensure a key part of the termination process is more efficient. The ISDA Close-out Framework is designed to illustrate the various steps and decisions firms need to take and is intended as a preparatory tool for future stress events. The ISDA Notices Hub allows the instantaneous delivery and receipt of notices via a secure online platform, eliminating risk exposures and potential losses that can result from delays in terminating derivatives contracts. [NEW]
Trade Associations Submit Letter on EMIR IM Model Validation. On July 8, ISDA, the Alternative Investment Management Association (“AIMA”), the European Fund and Asset Management Association (“EFAMA”) and the Securities Industry and Financial Markets Association’s asset management group (“SIFMA AMG”) submitted a letter to the ESAs and the European Commission on initial margin (“IM”) model approval requirements set out in the European Market Infrastructure Regulation (“EMIR 3.0”). The letter highlights challenges posed by the three-month period granted to the European Banking Authority and NCAs to validate changes to an IM model and describes how the ISDA Standard Initial Margin Model (“ISDA SIMM”) schedule can be amended to address these issues.
ISDA Proceeds with Development of an Industry Notices Hub. On July 1, ISDA announced it will proceed with the development of an industry-wide notices hub, following strong support from buy- and sell-side institutions globally. The new online platform will allow instantaneous delivery and receipt of critical termination-related notices and help to ensure address details for physical delivery are up to date, reducing the risk of uncertainty and potential losses for senders and recipients of these notices.

The following Gibson Dunn attorneys assisted in preparing this update: Jeffrey Steiner, Adam Lapidus, Marc Aaron Takagaki, Hayden McGovern, and Karin Thrasher.

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, any member of the firm’s Derivatives practice group, or the following practice leaders and authors:

Jeffrey L. Steiner, Washington, D.C. (202.887.3632, jsteiner@gibsondunn.com)

Michael D. Bopp, Washington, D.C. (202.955.8256, mbopp@gibsondunn.com)

Michelle M. Kirschner, London (+44 (0)20 7071.4212, mkirschner@gibsondunn.com)

Darius Mehraban, New York (212.351.2428, dmehraban@gibsondunn.com)

Jason J. Cabral, New York (212.351.6267, jcabral@gibsondunn.com)

Adam Lapidus – New York (212.351.3869, alapidus@gibsondunn.com )

Stephanie L. Brooker, Washington, D.C. (202.887.3502, sbrooker@gibsondunn.com)

William R. Hallatt , Hong Kong (+852 2214 3836, whallatt@gibsondunn.com )

David P. Burns, Washington, D.C. (202.887.3786, dburns@gibsondunn.com)

Marc Aaron Takagaki , New York (212.351.4028, mtakagaki@gibsondunn.com )

Hayden K. McGovern, Dallas (214.698.3142, hmcgovern@gibsondunn.com)

Karin Thrasher, Washington, D.C. (202.887.3712, kthrasher@gibsondunn.com)

Attorney Advertising: These materials were prepared for general informational purposes only based on information available at the time of publication and are not intended as, do not constitute, and should not be relied upon as, legal advice or a legal opinion on any specific facts or circumstances. Gibson Dunn (and its affiliates, attorneys, and employees) shall not have any liability in connection with any use of these materials. The sharing of these materials does not establish an attorney-client relationship with the recipient and should not be relied upon as an alternative for advice from qualified counsel. Please note that facts and circumstances may vary, and prior results do not guarantee a similar outcome.

From the Derivatives Practice Group: This week, the CFTC released a report detailing the results of its fourth Supervisory Stress Test of derivatives clearing organization resources. The report concluded the derivatives clearing organization hold sufficient resources to withstand extreme price shocks.

New Developments

Supreme Court Overrules Chevron, Sharply Limiting Judicial Deference To Agencies’ Statutory Interpretation. Last week, the Supreme Court overruled Chevron v. Natural Resources Defense Council, a landmark decision that had required courts to defer to agencies’, including the CFTC’s, reasonable interpretations of ambiguous statutory terms. For a more detailed analysis of the ruling please refer to Gibson Dunn’s client alert, available here. [NEW]
CFTC Announces Supervisory Stress Test Results. On July 1, the CFTC issued Supervisory Stress Test of Derivatives Clearing Organizations: Reverse Stress Test Analysis and Results, a report detailing the results of its fourth Supervisory Stress Test (“SST”) of derivatives clearing organization (“DCO”) resources. Among other findings, the 2024 report concluded the DCOs studied hold sufficient financial resources to withstand many extreme and often implausible price shocks. The purpose of the analysis was twofold: (1) to identify hypothetical combinations of extreme market shocks, concurrent with varying numbers of clearing member (“CM”) defaults, that would exhaust prefunded resources (DCO committed capital, and default fund), and unfunded resources available to the DCOs (this represents the reverse stress test component), and (2) to analyze the impacts of DCO use of mutualized resources on non-defaulted CMs. [NEW]
CFTC Staff Issues a No-Action Letter Regarding Certain Reporting Requirements for Swaps Transitioning from CDOR to CORRA. On June 27, the CFTC Division of Market Oversight (“DMO”) and Division of Data (“DOD”) issued a staff no-action letter regarding certain Part 43 and Part 45 swap reporting obligations for swaps transitioning under the ISDA LIBOR fallback provisions from referencing the Canadian Dollar Offered Rate (“CDOR”), to referencing the risk-free Canadian Overnight Repo Rate Average (“CORRA”) following the cessation of CDOR after June 28, 2024. The letter states DMO and DOD will not recommend the CFTC take enforcement action against an entity for failure to timely report under Part 45 the change in a swap’s floating rate. This letter covers those floating rate changes that are made under the ISDA LIBOR fallback provisions from CDOR to CORRA, but only in the event the entity uses its best efforts to report the change by the applicable deadline in Part 45 and in no case reports the required information later than five business days from, but excluding, July 2, 2024. The letter also states DMO and DOD will not recommend the CFTC take enforcement action against an entity for failure to report under Part 43 the change in the floating rate for a swap modified after execution to incorporate the ISDA LIBOR fallback provisions to transition from referencing CDOR to referencing CORRA.
CFTC Extends Public Comment Period for Proposed Amendments to Event Contracts Rules. On June 27, the CFTC announced it is extending the deadline for public comment on a proposal to amend its event contract rules. The extended comment period will close on August 8, 2024. The CFTC is providing an extension to allow interested persons additional time to analyze the proposal and prepare their comments. The proposal would amend CFTC Regulation 40.11 to further specify types of event contracts that fall within the scope of Commodity Exchange Act (“CEA”) Section 5c(c)(5)(C) and are contrary to the public interest, such that they may not be listed for trading or accepted for clearing on or through a CFTC-registered entity.
CFTC Grants ForecastEx, LLC DCO Registration and DCM Designation. On June 25, the CFTC announced that it has issued ForecastEx, LLC an Order of Registration as a DCO and an Order of Designation as a designated contract market (“DCM”) under the CEA. DCO registration was granted under Section 5b of the CEA. DCM designation was granted under Section 5a of the CEA. ForecastEx is a limited liability company registered in Delaware and headquartered in Chicago, Illinois.
CFTC Approves Final Capital Comparability Determinations for Certain Non-U.S. Nonbank Swap Dealers. On June 25, the CFTC announced it has approved four comparability determinations and related comparability orders granting conditional substituted compliance in connection with the CFTC’s capital and financial reporting requirements to certain CFTC-registered nonbank swap dealers organized and domiciled in Japan, Mexico, the European Union (France and Germany), or the United Kingdom. Pursuant to the orders, non-U.S. nonbank swap dealers subject to prudential regulation by the Financial Services Agency of Japan, the National Banking and Securities Commission of Mexico and the Mexican Central Bank, the European Central Bank, or the United Kingdom Prudential Regulation Authority may satisfy certain CEA capital and financial reporting requirements by being subject to, and complying with, comparable capital and financial reporting requirements under the respective foreign jurisdiction’s laws and regulations, subject to specified conditions.

New Developments Outside the U.S.

ESMA Puts Forward Measures to Support Corporate Sustainability Reporting. On July 5, ESMA published a Final Report on the Guidelines on Enforcement of Sustainability Information (“GLESI”) and a Public Statement on the first application of the European Sustainability Reporting Standards (“ESRS”). ESMA reports that these documents will support the consistent application and supervision of sustainability reporting requirements. [NEW]
New MiCA Rules Increase Transparency for Retail Investors. On July 4, ESMA published the second Final Report under the Markets in Crypto-Assets Regulation (MiCA) covering eight draft technical standards that aim to provide more transparency for retail investors, clarity for providers on the technical aspects of disclosure and record-keeping requirements, and data standards to facilitate supervision by National Competent Authorities (“NCAs”). The report covers public disclosures, as well as descriptions on how issuers should disclose price-sensitive information to the public to prevent market abuses, such as insider dealing. [NEW]
ESMA Reappoints Three Members to its Management Board. On July 4, ESMA announced that it has reappointed three current members to its Management Board. The appointments took place at the Board of Supervisors meeting on July 3. The Management Board, chaired by Verena Ross, Chair of ESMA, is responsible for ensuring that the Authority carries out its mission and performs the tasks assigned to it under its founding Regulation. [NEW]
EBA and ESMA Publish Guidelines on Suitability of Management Body Members and Shareholders for Entities Under MiCA. On June 27, EBA and ESMA published joint guidelines on the suitability of members of the management body, and on the assessment of shareholders and members with qualifying holdings for issuers of asset reference tokens (“ARTs”) and crypto-asset service providers (“CASPs”), under the MiCA. The first set of guidelines covers the presence of suitable management bodies within issuers of ARTs and CASPs. The second set of guidelines concerns the assessment of the suitability of shareholders or members with direct or indirect qualifying holdings in a supervised entity.
ESAs Propose Improvements to the Sustainable Finance Disclosure Regulation. On June 18, the EBA, the European Insurance and Occupational Pensions Authority (“EIOPA”), and ESMA (the three European Supervisory Authorities , i.e., “ESAs”)
published a Joint Opinion on the assessment of the Sustainable Finance Disclosure Regulation (“SFDR”). In the joint opinion, the ESAs call for a coherent sustainable finance framework that caters for both the green transition and enhanced consumer protection, considering the lessons learned from the functioning of the SFDR.

New Industry-Led Developments

ISDA Proceeds with Development of an Industry Notices Hub. On July 1, ISDA announced it will proceed with the development of an industry-wide notices hub, following strong support from buy- and sell-side institutions globally. The new online platform will allow instantaneous delivery and receipt of critical termination-related notices and help to ensure address details for physical delivery are up to date, reducing the risk of uncertainty and potential losses for senders and recipients of these notices. [NEW]
ISDA Publishes Framework to Prepare for Close Out of Derivatives Contracts. On June 27, ISDA published the ISDA Close-out Framework that market participants can use to help prepare for potential terminations of collateralized derivatives contracts. ISDA stated that the launch of the ISDA Close-out Framework is in response to the March 2023 failure of Signature Bank and SVB in the US, which, according to ISDA, highlighted the complexities of potentially terminating over-the-counter derivatives trading relationships following various post-crisis regulatory reforms. Specifically, the reforms require that in-scope entities post margin for non-cleared derivatives transactions, while various jurisdictions have introduced mandatory stays on termination rights and remedies as part of bank resolution regimes. ISDA stated that the ISDA Close-out Framework is intended to be used as a preparatory resource to help firms coordinate internal business functions and stakeholders and internal and external legal, operational, risk management, infrastructure and other relevant service providers to ensure they are adequately prepared for any potential future stress events.
ISDA Responds to CCIL on Proposal for USD/INR FX Options. On June 21, ISDA submitted a response to a consultation paper from the Clearing Corporation of India Limited (“CCIL”) on a proposal to introduce an electronic trading platform and clearing and settlement services for USD/INR FX options of up to one year maturity initially. The response sets out the features of the trading platform, the risk management framework and a questionnaire on the parameters of the product. ISDA’s response focuses mainly on the risk management framework aspect, including the margin models and default management framework. It asks for more clarity and transparency on the choice of margin models and encourages the implementation of scheduled variation margin calls and stress-based anti-procyclicality measures.
ISDA Responds to FSB Consultation on Liquidity Preparedness for Margin and Collateral Calls. On June 18, ISDA submitted a response to the Financial Stability Board’s (FSB) consultation on liquidity preparedness for margin and collateral calls. The response notes that the recommendations are generally sensible and seek to incorporate a proportionate and risk-based approach. It also highlights a number of considerations relevant to the non-bank financial intermediation (“NBFI”) sector’s liquidity preparedness for margin and collateral calls.

The following Gibson Dunn attorneys assisted in preparing this update: Jeffrey Steiner, Adam Lapidus, Marc Aaron Takagaki, Hayden McGovern, and Karin Thrasher.

Jeffrey L. Steiner, Washington, D.C. (202.887.3632, jsteiner@gibsondunn.com)

Michael D. Bopp, Washington, D.C. (202.955.8256, mbopp@gibsondunn.com)

Michelle M. Kirschner, London (+44 (0)20 7071.4212, mkirschner@gibsondunn.com)

Darius Mehraban, New York (212.351.2428, dmehraban@gibsondunn.com)

Jason J. Cabral, New York (212.351.6267, jcabral@gibsondunn.com)

Adam Lapidus – New York (212.351.3869, alapidus@gibsondunn.com )

Stephanie L. Brooker, Washington, D.C. (202.887.3502, sbrooker@gibsondunn.com)

William R. Hallatt , Hong Kong (+852 2214 3836, whallatt@gibsondunn.com )

David P. Burns, Washington, D.C. (202.887.3786, dburns@gibsondunn.com)

Marc Aaron Takagaki , New York (212.351.4028, mtakagaki@gibsondunn.com )

Hayden K. McGovern, Dallas (214.698.3142, hmcgovern@gibsondunn.com)

Karin Thrasher, Washington, D.C. (202.887.3712, kthrasher@gibsondunn.com)

In Ryan, LLC v. Federal Trade Commission, the Northern District of Texas concluded “The role of an administrative agency is to do as told by Congress, not to do what the agency think[s] it should do.”

On July 3, 2024, the United States District Court for the Northern District of Texas concluded that the Federal Trade Commission’s Non-Compete Rule, which would retroactively invalidate over 30 million employment contracts and preempt the laws of 46 states, exceeds the FTC’s statutory authority and is arbitrary and capricious in violation of the Administrative Procedure Act. The court preliminarily enjoined enforcement of the Rule and stayed its effective date, but limited the scope of relief to the parties to the case. The court did not issue a nationwide preliminary injunction.

Background

Section 5 of the FTC Act authorizes the FTC “to prevent” the use of “unfair methods of competition” through case-by-case adjudication. Section 6(g) of the Act grants the FTC ancillary powers to support administrative adjudication, including the powers to make recommendations, publish reports, classify corporations, and “make rules and regulations for the purposes of carrying out the provisions of this subchapter.”

On April 23, the FTC promulgated the Non-Compete Rule by a 3-2 vote. The Rule invokes the FTC’s purported authority under Sections 5 and 6 and declares that nearly all non-compete agreements between employers and employees are “unfair methods of competition.” The Rule accordingly prohibits businesses from entering into new non-competes except for those associated with the sale of certain business interests and bans the enforcement of nearly all non-competes (with narrow exceptions for the sale of certain business interests and for agreements with certain senior executives). The Rule also expressly preempted the laws of the 46 states that allow non-compete agreements.

Ryan, LLC, is a global tax-consulting firm headquartered in Dallas. Its principals and other workers are sought-after tax experts, many of whom agree to temporally limited non-compete agreements.

Represented by Gibson Dunn, Ryan filed suit against the FTC in the Northern District of Texas, alleging that the Non-Compete Rule exceeds the FTC’s statutory authority, violates the Administrative Procedure Act, and defies the major questions doctrine, which instructs that federal agencies cannot regulate questions of deep economic and political significance absent clear authority from Congress. A group of trade associations led by the United States Chamber of Commerce intervened in the case to challenge the Rule as well.

The Court’s Opinion

The court determined that the Non-Compete Rule exceeds the scope of the FTC’s statutory authority. “By a plain reading, Section 6(g) of the Act does not expressly grant the Commission authority to promulgate substantive rules regarding unfair methods of competition.” The court emphasized that, unlike Section 5, Section 6(g) “contains no penalty provision—which indicates a lack of substantive force.” Further, the court noted that “the location of the alleged substantive rulemaking authority is suspect . . . . Section 6(g) is the seventh in a list of twelve almost entirely investigative powers.”
The court further concluded that the Non-Compete Rule is arbitrary and capricious in violation of the Administrative Procedure Act. First, the Rule “is unreasonably overbroad without a reasonable explanation.” The FTC “lack[ed] . . . evidence as to why they chose to impose such a sweeping prohibition—that prohibits entering or enforcing virtually all non-competes—instead of targeting specific, harmful non-competes.” Second, “the FTC insufficiently addressed alternatives to issuing the Rule.” It “dismissed any possible alternatives, merely concluding that either the pro-competitive justifications outweighed the harms, or that employers had other avenues to protect their interests.”
The court did not address the major questions doctrine.
The court determined that Ryan and the intervenors would suffer irreparable harm if the Rule takes effect because they would face “financial injury” and expend “nonrecoverable costs [when] complying with the Rule.”
The court declined to enter a nationwide preliminary injunction. The preliminary injunction and stay are limited to Ryan and the intervenors, and do not extend to intervenors’ member companies or other nonparties.

What It Means:

The Non-Compete Rule was scheduled to take effect on September 4. As long as the preliminary injunction and stay are in place, the FTC cannot enforce the Rule against Ryan or the intervenors. Their existing non-compete agreements remain enforceable under federal law, and they are free to enter into new non-compete agreements.
In the absence of nationwide relief, the Rule will go into effect on September 4 as to all other employers, meaning that state non-compete laws will be preempted, existing non-compete agreements will be retroactively invalidated, and businesses will be unable to enter into new non-compete agreements unrelated to certain sales of businesses.
The decision is not binding precedent on other courts.
Proceedings before the district court will continue. The court indicated that it would enter a final ruling on the merits by August 30.

Gibson Dunn attorneys Eugene Scalia, Allyson N. Ho, Amir C. Tayrani, Andrew Kilberg, Elizabeth A. Kiernan, Aaron Hauptman, and Josh Zuckerman represent Ryan, LLC.

The following Gibson Dunn lawyers prepared this update: Eugene Scalia, Allyson N. Ho, Amir C. Tayrani, Andrew Kilberg, Elizabeth A. Kiernan, Aaron Hauptman, and Josh Zuckerman.

Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding the issues discussed in this update. Please contact the Gibson Dunn lawyer with whom you usually work, the authors, or any leader or member of the firm’s Appellate & Constitutional Law, Labor & Employment, Administrative Law & Regulatory, or Antitrust & Competition practice groups:

Appellate and Constitutional Law:
Thomas H. Dupree Jr. – Washington, D.C. (+1 202.955.8547, tdupree@gibsondunn.com)
Allyson N. Ho – Dallas (+1 214.698.3233, aho@gibsondunn.com)
Julian W. Poon – Los Angeles (+ 213.229.7758, jpoon@gibsondunn.com)

Labor and Employment:
Andrew G.I. Kilberg – Washington, D.C. (+1 202.887.3759, akilberg@gibsondunn.com)
Karl G. Nelson – Dallas (+1 214.698.3203, knelson@gibsondunn.com)
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)

Administrative Law and Regulatory:
Eugene Scalia – Washington, D.C. (+1 202.955.8673, escalia@gibsondunn.com)
Helgi C. Walker – Washington, D.C. (+1 202.887.3599, hwalker@gibsondunn.com)

Antitrust and Competition:
Rachel S. Brass – San Francisco (+1 415.393.8293, rbrass@gibsondunn.com)
Svetlana S. Gans – Washington, D.C. (+1 202.955.8657, sgans@gibsondunn.com)
Cynthia Richman – Washington, D.C. (+1 202.955.8234, crichman@gibsondunn.com)
Stephen Weissman – Washington, D.C. (+1 202.955.8678, sweissman@gibsondunn.com)

In the lead up to the election, the Labour Party proposed extensive reforms to UK employment law as part of “Labour’s Plan to Make Work Pay: Delivering A New Deal for Working People.” Legislation is expected to be put before Parliament within the first 100 days of the Labour Party’s entry into government.

On July 5, 2024, the Labour Party was announced to have won a substantial majority in the UK General Election that was held on July 4, 2024, marking an end to the Conservative Party’s 14 years in power. In the lead up to the election, the Labour Party proposed extensive reforms to UK employment law as part of “Labour’s Plan to Make Work Pay: Delivering A New Deal for Working People” (the “New Deal”), and legislation is expected to be put before Parliament within the first 100 days of the Labour Party’s entry into government. In this update, we outline these anticipated developments in UK employment law.

A brief overview of the potential developments which we believe will be of interest to our clients is provided below, with more detailed information on each topic available by clicking on the links.

1. Implementing Workforce Changes(view details)

We summarise changes proposed to an employer’s ability to terminate employees who have acquired less than two years of service, as well as the impact on employers of proposed changes: (i) to the controversial practice of dismissing and re-hiring employees as a means of changing terms of employment; and (ii) designed to strengthen employee rights and protections in connection with both collective redundancy situations (lay-offs) and business transfers, strategic sourcing transactions, and other transfers subject to the Transfer of Undertakings (Protection of Employment) Regulations 2006 (SI 2006/246) (“TUPE”).

2. Enforcement of UK Employment Law (view details)

We summarise proposed reforms to the practice of enforcing UK employment laws, including the establishment of a single enforcement body and the extension of the time limit for bringing the majority of employment claims before the Employment Tribunal. We also consider the potential new ability for employees to collectively raise grievances about their workplace with Advisory, Conciliation and Arbitration Service (“ACAS”).

3. Discrimination, Diversity, Equity and Inclusion (view details)

We summarise the proposed new obligations on employers to address the gender pay gap, reduce workplace harassment, strengthen whistleblower rights, extend the gender pay gap regime to include race and disability, and carry out ethnicity and disability pay gap reporting. We also consider potential changes to family-friendly rights.

4. Working Arrangements (view details)

We consider the proposed changes to an employer’s ability to engage workers on “zero hour” contracts, changes to national minimum wage (“NMW”) rates, and the introduction of fair pay agreements to the adult social care sector. We also summarise the potential new right for employees to disconnect from work outside of working hours, enhancements to the right to flexible working, and the strengthening of trade unions.

5. Employment Status (view details)

We consider the possible move away from the three-tier system of employee, worker and self-employed contractor that currently exists in the UK towards a simpler two-part framework of employment status, and the proposal to strengthen the rights and protections of the self-employed.

We will provide a further update once the Labour government publishes draft legislation implementing these changes. In the meantime, we will continue to work with our clients to navigate the changing employment landscape in the UK.

APPENDIX

Implementing Workforce Changes

Unfair Dismissal

UK employees with less than two years of continuous service do not currently benefit from protection against unfair dismissal, except in certain limited circumstances. Unfair dismissal protection restricts an employer’s ability to terminate their employment other than for reasons of: (i) capability; (ii) conduct; (iii) redundancy; or (iii) some other substantial reason, while also requiring employers to follow a fair dismissal process.

The Labour government has indicated that a form of unfair dismissal protection will be extended to employees from day one of their employment to ensure that new hires are not terminated without cause. In response to protests from employer organisations, the Labour government has suggested that employers will still be able to operate probationary periods to assess new hires, although for how long such probation periods may last remains to be seen.

Dismissal and Re-engagement

The Labour government has also committed to ending the practice known as “fire and rehire” as a lawful means of imposing unilateral changes to an employee’s contractual terms of employment. This was an area that the previous government attempted to reform by implementing a Statutory Code of Practice on Dismissal and Re-engagement (the “Code”) which employers should follow when seeking to change employment terms and conditions using the method of dismissal and re-engagement. This Code was expected to come into force on July 18, 2024, although it is yet to be seen whether the new Labour government will implement it in its current form.

Instead, it is anticipated that the Code will be replaced by new laws designed to regulate the practice of firing and rehiring employees in order to change their terms of employment.

Redundancy and TUPE

Currently, UK employers are required to follow a collective consultation process when proposing to make at least 20 redundancies in a single establishment (often interpreted as one workplace) within a 90-day period. The Labour government has committed to strengthening employee redundancy rights and protections, which includes making the right to redundancy consultation determined by the number of people impacted across the business rather than in one workplace.

Employees who are subject to TUPE processes also currently enjoy protection from termination of employment and/or changes to their contractual terms that are imposed by reason of a TUPE transfer. The Labour government has stated that they will strengthen existing rights and protections under TUPE, although it is not clear in what way these rights would be strengthened.

Enforcement of UK Employment Law

Establishing a Single Enforcement Body

Save in relation to equality and human rights, the current enforcement of UK employment rights relies on individual employees or trade unions bringing a claim before the Employment Tribunal. The Labour government plans to establish a single enforcement body to enforce workers’ rights going forward, to include not only equality and human rights but other areas of employment law such as health and safety, minimum wage, and worker exploitation. This body will have strong powers to undertake targeted and proactive enforcement work, such as carrying out unannounced inspections, following up on anonymous tip-offs, and bringing civil proceedings to uphold employment rights.

Employment Tribunal Claims

The time limit for bringing many types of UK employment claims in an employment tribunal currently expires three months from the date the claim arises, subject to an extension of up to six weeks for pre-claim conciliation. The Labour government plans to extend the time limit to bring all UK employment claims to six months.

Collective Grievances

UK employees can currently formally raise individual grievances about conduct in the workplace with their employer through ACAS. The Labour government has stated that it will provide employees with the ability to raise collective grievances about conduct in their place of work directly to ACAS.

Discrimination, Diversity, Equity and Inclusion

Pay Gap Reporting and Action Plans

UK employers with more than 250 staff are currently required to report their gender pay gap data by April 4 of each year. There is currently no mandatory requirement for employers to report on their ethnicity or disability pay gap.

The Labour government has stated that the publication of ethnicity and disability pay gaps will become mandatory for employers with more than 250 employees, mirroring gender pay gap reporting. Although not mentioned in the New Deal, the Labour government has indicated that it would implement new legislation to tackle structural racism, including the issue of low pay for ethnic minorities, with fines for employers not taking appropriate action on their pay gap data.

Large employers are expected to be required to develop, publish, and implement action plans to close their gender pay gaps, and to include outsourced workers in their gender pay gap and pay ratio reporting. Similarly, employers with more than 250 employees are expected to be required to produce Menopause Action Plans, setting out how they will support employees going through the menopause at work.

Another proposed policy, not mentioned in the New Deal but included in the Labour manifesto, is to extend the current gender equal pay regime to include race and disability. This will be enforced by a new regulatory unit with trade union backing.

Workplace Harassment and Whistleblowing

The Labour government has stated that it will “require employers to create and maintain workplaces and working conditions free from harassment, including third parties”, and will also strengthen the legal duty for employers to take all reasonable steps to stop harassment, including sexual harassment, before it starts. Although not mentioned in the New Deal, the Labour government also previously indicated that women who report sexual harassment at work would be provided with the same protections from dismissal and detriment as other whistleblowers.

The previous government also sought to implement a new mandatory duty to prevent sexual harassment in the workplace, which had been expected to come into force in October 2024, however this duty does not currently cover harassment by third parties. It remains to be seen if the new mandatory duty will be implemented in its current form.

The Labour government has committed to strengthening whistleblowers’ rights, and we await details of this new policy.

Family Leave Rights

Whilst UK employment law already provides for extensive family leave rights, the Labour government has stated it would make various enhancements:

parental leave, which entitles parents with at least one years’ service to take up to 18 weeks of unpaid leave for each child until the child is 18, will become available to employees from day one of their employment;

it will be unlawful to dismiss a woman during pregnancy or within six months of her return to work following maternity leave, other than in specified circumstances. This is expected to build on the existing protections afforded to pregnant women or women on maternity leave; and

entitlement to bereavement leave will be clarified and extended to all employees. Currently, employees do not have a statutory right to paid time off when someone dies, unless they are entitled to parental bereavement leave.

The Labour government has also stated that the system of parental leave will be reviewed within its first year and that the implementation of the legislation for unpaid carers’ leave, which entitles employees to take up to one week every 12 months to help a dependent who needs long-term care and was introduced in April 2024, will be reviewed. The Labour government also plans to examine the potential benefits of introducing paid carers’ leave.

Working Arrangements

Engagement of Casual and/or Low Paid Workers

The Labour government has committed to:

banning contracts that provide no guarantee of work, known as “zero hour” contracts, although it has been reported that this would not be a total ban and would allow workers to remain on zero hour contracts in certain circumstances; and

ensuring that workers have the right to: (i) a contract that reflects the number of hours they regularly work based on a twelve-week reference period; and (ii) reasonable notice of any change in shifts or working time, with compensation that is proportionate to the notice given for any shifts cancelled or curtailed.

The previous government had attempted to regularise the engagement of casual workers in the UK by implementing a statutory right to a predictable working pattern, which is expected to come into force in September 2024; it is currently unclear if the new Labour government will implement this provision.

The Labour government also announced various proposed enhancements to the NMW rate, which is currently split into age bands and is reviewed and updated each year. The Labour government plans to: (i) remove the age bands, which it considers discriminatory; and (ii) expand the remit of the Low Pay Commission, which currently reviews and makes recommendations on the NMW rate, to ensure that the rate considers increases in cost of living.

The Labour government has pledged to introduce a “Fair Pay Agreement” to the adult social care sector. This will offer social care workers stronger collective bargaining rights in pay negotiations.

Right to Disconnect and Work Autonomously

The Labour government has stated a new “right to switch off” would be introduced, which would give UK employees the right to disconnect from outside of working hours and not be contacted by their employers. This would follow models already in place in Ireland and Belgium, which give employers and employees the opportunity to work together on bespoke workplace policies or contractual terms that benefit both parties in this respect.

The Labour government has also stated that they will ensure that proposals by employers to use surveillance technologies will be subject to consultation and negotiation, with a view to agreement of trade unions or staff representatives.

Right to Flexible Working

The right to request flexible working recently became a day one right in the UK on April 6, 2024. The Labour government has stated that flexible working would be made the default for all workers from the first day of employment, except where not reasonably feasible, although it is currently unclear what this will involve.

Trade Unions

The Labour government plans to update trade union legislation so that, among other things, employers will be required to inform workers of their right to join a trade union. Additionally, recent legislation introduced by the previous government to restrict trade union activity, such as the minimum service level requirement in essential services, is likely to be repealed. Industrial action ballot requirements will also be eased, and limitations on union workplace access will be lifted.

Employment Status

UK employment law currently recognises three types of employment status: (i) employees; (ii) workers (which is inclusive of employees); and (iii) self-employed contractors. An individual’s employment status determines the statutory employment rights to which they are entitled to (if any), and employment status has become a hot topic before the Employment Tribunal in recent years.

The Labour government has committed to carrying out a consultation on employment status as part of a move towards a single status of ‘worker’ and a simplified two-part framework for employment status. The Labour government has also stated that they will strengthen the rights and protections of the self-employed, including the right to a written contract, action to tackle late payments, and extending health and safety and blacklisting protections to the self-employed, along with strengthening trade union rights.

Further updates

The following Gibson Dunn lawyers prepared this update: James A. Cox, Georgia Derbyshire, Olivia Sadler, and Finley Willits*.

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, any leader or member of the firm’s Labor and Employment practice group, or the following authors in London:

James A. Cox (+44 20 7071 4250, jcox@gibsondunn.com)

Georgia Derbyshire (+44 20 7071 4013, gderbyshire@gibsondunn.com)

Olivia Sadler (+44 20 7071 4950, osadler@gibsondunn.com)

*Finley Willits, a trainee solicitor in the London office, is not admitted to practice law.

Gibson Dunn’s Workplace DEI Task Force aims to help our clients develop creative, practical, and lawful approaches to accomplish their DEI objectives following the Supreme Court’s decision in SFFA v. Harvard. Prior issues of our DEI Task Force Update can be found in our DEI Resource Center. Should you have questions about developments in this space or about your own DEI programs, please do not hesitate to reach out to any member of our DEI Task Force or the authors of this Update (listed below).

Key Developments

On June 27, Tractor Supply issued a statement saying that it would “[e]liminate DEI roles and retire [its] current DEI goals,” along with ceasing support for Pride festivals and withdrawing its carbon emission goals. The statement came in response to a public pressure campaign waged against Tractor Supply by Robby Starbuck, a conservative activist and social media personality, who criticized Tractor Supply for its DEI commitments, support for Pride Month celebrations, contributions to the Democratic Party, and carbon emission goals, among other things. Starbuck urged his followers to boycott Tractor Supply and to send complaints to Tractor Supply’s corporate offices. After three weeks of public pressure, and a reduction in its stock price, Tractor Supply acceded to Starbuck’s demands. Starbuck immediately claimed victory following Tractor Supply’s announcement, saying that it “was the start of something big” and threatening to “expose a new company next week.” In response to Tractor Supply’s announcement, the National Black Farmers Association called on Tractor Supply’s president and CEO to step down, and threatened a boycott of its own.

On June 20, the State of Missouri filed a complaint against IBM in state court, alleging that the company is violating the Missouri Human Rights Act by using race and gender quotas in its hiring and basing employee compensation on participation in allegedly discriminatory DEI practices. See Missouri v. IBM, No. 24SL–CC02837 (Cir. Ct. of St. Louis Cty.). The complaint cites a leaked video in which IBM’s Chief Executive Officer and Board Chairman, Arvind Krishna, allegedly stated that all executives must increase representation of ethnic minorities in their teams by 1% each year in order to receive a “plus” on their bonus. The complaint also alleges that employees at IBM have been fired or suffered adverse employment actions because they failed to meet or exceed these targets. The Missouri Attorney General is seeking to permanently enjoin IBM and its officers from utilizing quotas in hiring and compensation decisions.

On July 1, a suit was filed against CBS Broadcasting by former Los Angeles news anchor Jeff Vaughn, alleging that CBS terminated his employment because he is “an older, white, heterosexual male.” See Vaughn v. CBS Broadcasting, No. 2:24-cv-05570 (C.D. Cal. 2024). Vaughn claims that CBS replaced him with a “younger minority news anchor” in violation of Section 1981, Title VII, and the Age Discrimination in Employment Act. The complaint points to public statements by CBS expressing its commitment to diversity, including statements discussing various representation goals. Vaughn, who is represented by America First Legal, is seeking over $5,000,000 in damages.

In a statement issued on June 28, the U.S. Department of Commerce said that it would not appeal the district court’s ruling in Nuziard v. Minority Business Development Agency, No. 4:23-cv-00278 (N.D. Tex. 2024). The court held that the racial presumption used by the Minority Business Development Agency (MBDA) in apportioning federal funds for minority business assistance violates the Fifth Amendment’s equal protection guarantee. The decision extended the Supreme Court’s reasoning in SFFA to federal agencies administering grant programs, holding that “[t]hough SFFA concerned college admissions, nothing in the decision indicates that the Court’s holding should be constrained to that context.” For a more detailed discussion of the Nuziard decision, see our prior update here. The Commerce Department’s statement said that while the Department “strongly disagree[s]” with the court’s ruling, its “primary goal is to ensure MBDA can continue to meet its mission to promote the growth and global competitiveness of minority business enterprises,” and it believes that the injunction imposed by the district court “does not currently prevent MBDA from continuing to fulfill its mission.”

On June 27, EEOC Commissioner Kalpana Kotagal encouraged workers’ rights attorneys to continue advocating for lawful DEI initiatives, including data collection aimed at ensuring equal employment opportunities. Kotagal’s address took place at the National Employment Lawyers Association’s annual conference in Philadelphia and followed panel discussions of conservative legal activists’ anti-DEI efforts. Kotagal commented on the “bleak” landscape but urged the audience not to give up, emphasizing that Title VII standards have not changed and citing “misinformation” and “scare tactics” as having blurred employers’ understanding of the legality of DEI programming. Kotagal acknowledged the litany of reverse-discrimination suits being brought by white employees in the wake of SFFA but insisted that “there’s a huge difference” between quotas, on the one hand, and “measuring and understanding the demographics of your workforce with an eye to breaking down barriers and equal opportunity,” on the other. She stated that employers can legally engage in “remedial and temporary affirmative action plans” and the key is ensuring that “individual decisions are not based on race.”

On June 27, a split Ninth Circuit panel reinstated a proposed class action in which the plaintiffs allege that Meta unlawfully favors visa holders over citizens when making hiring decisions in Rajaram v. Meta Platforms, Inc., No. 22-16870 (9th Cir. 2024). The plaintiff alleged that, despite being qualified, he was discriminatorily rejected by Meta for several jobs because he is as U.S. citizen and Meta prefers to hire noncitizens holding H1B visas because it can pay them lower wages. U.S. Magistrate Judge Laurel Beeler in the Northern District of California had dismissed the complaint, finding that U.S. citizens are not a protected class under Section 1981. The Ninth Circuit reversed. The majority noted that while race discrimination is different from citizenship discrimination, “it is not different in any way that is relevant to the text of 1981.” Judge VanDyke dissented, writing that “discrimination because of citizenship is not covered by Section 1981 because citizens inherently possess the rights enjoyed by citizens, even when noncitizens are preferenced over them.”

On June 24, the Equal Protection Project (EPP) filed a complaint with the U.S. Department of Education’s Office for Civil Rights (OCR) against Indiana University Columbus (IUC). The complaint alleges that IUC partners with the African American Fund Bartholomew County (AAFBC) to administer a scholarship that is restricted to African American students in violation of Title VI and the Equal Protection Clause of the Fourteenth Amendment. EPP contends that because IUC is a public institution receiving federal financial assistance, it cannot intentionally discriminate on the basis of race in any “program or activity,” regardless of any good intention. EPP requests that OCR initiate a formal investigation into IUC’s role in creating and promoting the scholarship and asks that it impose appropriate remedial relief.

On June 20, Illinois Attorney General Kwame Raoul and 18 other Democrat state attorneys general issued a public letter to the American Bar Association (ABA) defending the current criteria used in ABA accreditation, in response to a June 3 letter from Republican state AGs urging the ABA to remove this criteria from its accreditation process. The letter from the Democrat AGs argues that SFFA does not bar higher education institutions from encouraging a diverse applicant pool or creating non-hostile educational environments for underrepresented groups. The ABA is currently considering revisions to Standard 206 for accreditation, which governs diversity and inclusion within law schools. The letter was also addressed to “Fortune 100 CEOs and other organizations unfairly targeted for their commitment to diversity, equity, and inclusion,” noting that SFFA’s “narrow holding did not change the law for private businesses.”

On June 20, Do No Harm filed a complaint against the American Association of University Women (AAUW), alleging that the organization is violating Section 1981 by providing Focus Group Professions Fellowships only to “women from ethnic minority groups historically underrepresented in certain fields within the United States: Black or African American, Hispanic or Latino/a, American Indian or Alaskan Native, Asian, and Native Hawaiian or Other Pacific Islander.” See Do No Harm v. American Association of University Women, No. 1:24-cv-01782 (D.D.C. 2024). Do No Harm is proceeding on behalf of its medical student-members, who allegedly meet all of the other application requirements for the AAUW fellowship but “are ineligible to apply to the fellowship because of their race.” Do No Harm is seeking a preliminary injunction prohibiting AAUW from closing the application window, and a permanent injunction prohibiting AAUW from considering race when selecting grant recipients.

On June 20, a three-judge panel of the Michigan Court of Appeals issued an unpublished per curiam decision dismissing the appeal of two former General Motors employees who contended that they faced discrimination and were terminated because they are white. See Bittner v. General Motors, LLC, No. 366160 (Mich. Ct. App. 2024). As noted in the court’s opinion, GM terminated the plaintiffs’ employment after corroborating complaints from other employees claiming that the plaintiffs routinely used sexually derogatory, homophobic, and transphobic language. The plaintiffs asserted state-law claims of disparate treatment, disparate impact, hostile work environment, and civil conspiracy, but the trial court granted GM’s motion for summary disposition. The Court of Appeals affirmed, rejecting the plaintiffs’ assertion that a supervisor’s request that they remain respectful during a Juneteenth moment of silence was “direct evidence” of discrimination. Nor was the Court convinced by the plaintiffs’ purported circumstantial evidence of disparate treatment.

Media Coverage and Commentary:

Below is a selection of recent media coverage and commentary on these issues:

The Washington Post, “DEI Programs toppled amid a surge of conservative lawsuits” (June 27): The Washington Post’s Peter Whoriskey and Julian Mark report that right-leaning legal groups filed more than 100 lawsuits challenging racial preferences and other efforts by corporations and the government to “address demographic disparities in business, government and education.” Following SFFA, according to Jason Schwartz, Gibson Dunn partner and co-chair of the firm’s Labor & Employment group, “[t]he cases are going pretty quickly and decisively against the government programs” because “[government] cases are harder to defend.” Whoriskey and Mark say that private companies have “more legal leeway to implement diversity programs,” but that recent litigation also has had a chilling effect on private companies, with many reconsidering their own diversity programs as a defensive measure to reduce litigation risk.
The Wall Street Journal, “Tractor Supply Retreats from DEI Amid Conservative Backlash” (June 27): Sarah Nassauer and Sabela Ojea of The Wall Street Journal report that Tractor Supply Company, a rural retailer best known for its animal feed and workwear sales, is abandoning its DEI and environmental initiatives in response to weeks of social media criticism from Robby Starbuck, a prominent conservative political commentator. Starbuck encouraged his followers to boycott Tractor Supply because of its stated political, diversity, and environmental goals. Nassauer and Ojea report that the company announced it would eliminative jobs focused on DEI, stop sponsoring LGBTQ+ pride festivals, and no longer submit data to LGBTQ+ advocacy group the Human Rights Campaign. Nassauer and Ojea note that “Tractor Supply’s core customer base is more rural and male than general big-box retailers,” with “customers in regions that tend to vote for more conservative political candidates.” In a statement, Tractor Supply said that it had “heard from customers that we have disappointed them,” and it had “taken this feedback to heart.”

The Associated Press, “Black farmers’ association calls for Tractor Supply CEO’s resignation after company cuts DEI efforts” (July 2): Wyatte Grantham-Philips and Haleluya Hadero of the Associated Press report on calls from the National Black Farmers Association (NBFA) for Tractor Supply’s CEO Hal Lawton to step down. Grantham-Philips and Hadero say that the calls for Lawton’s resignation come in response to Tractor Supply’s recent announcement that it would stop most of its corporate diversity and climate advocacy efforts. Tractor Supply announced the changes following a pressure campaign from conservative activists who took issue with what Grantham-Philips and Hadero call “the company’s work to be more socially inclusive and to curb climate change.” John Boyd Jr., president and founder of the NBFA, said that he was “appalled” by Tractor Supply’s decision, and warned that “Black farmers are going to start fighting back,” including by considering calling for a boycott of Tractor Supply. Indeed, Grantham-Philips and Hadero report that some customers have “already decided to take their business elsewhere,” deciding that they can “no longer support Tractor Supply if its announcement reflected its beliefs.”
The Wall Street Journal, “Banks, Law and Consulting Firms are Watering Down Their Diversity Recruiting Programs” (June 20): The Wall Street Journal’s Kailyn Rhone reports that “white-collar companies,” once champions of programs to recruit diverse employees, are now quietly downplaying these programs. Rhone says that these changes include minimizing use of terminology like “DEI,” opening diversity programs to all applicants, and omitting references to DEI programs from annual reports. Rhone cites accounting firm PricewaterhouseCoopers as an example, noting that it recently altered the eligibility criteria for its Start internship, shifting the focus from “traditionally underrepresented” minority applicants to students of “diverse backgrounds” generally. Similarly, Rhone notes that JPMorgan Chase clarified that its Black and Hispanic & Latino fellowship programs are available to all students, regardless of race. And, Rhone says, consulting firm McKinsey & Co. also recently removed the requirement that candidates for its summer business analyst program “self-identify as a member of a historically underrepresented group.” According to Rhone, some minority job seekers worry that the changes “could erode a path for diverse candidates to find internships and entry-level roles.”

The Dallas Morning News, “131 college scholarships put on hold or modified due to Texas DEI ban, documents show” (June 17): Marcela Rodrigues and Philip Jankowski of The Dallas Morning News report that a new Texas law banning DEI programs at public universities has frozen or modified over 130 college scholarships state-wide. Known as SB 17, the law prohibits Texas public colleges from administering programs designed for students of specific races or genders. Many of the scholarships affected are administered by the schools but funded through private donations. According to officials at public universities across Texas, SB 17 has triggered review of thousands of scholarships, in some cases leading to the alteration or elimination of gender and racial eligibility requirements.
The Washington Post, “Most Americans approve of DEI, according to Post-Ipsos poll” (June 18): The Washington Post’s Taylor Telford, Emmanuel Felton, and Emily Guskin report on a recent poll finding that the majority of Americans believe DEI programs are “a good thing.” The poll indicated that support is even higher for certain types of programming, like internships for underrepresented groups and anti-bias trainings, and that respondents expressed greater support for DEI programs after they were given a detailed description of them. The authors note that “one effort was universally unpopular: financial incentives for managers who achieve diversity goals.” Joelle Emerson, chief executive of Paradigm, a DEI consultancy, said that she believes “that the vast majority of peoples’ values align with what this work actually entails,” but that the concept of DEI might need some rebranding.
Law360 Employment Authority, “A Year After Justices Scrap Affirmative Action, DEI Rebounds” (June 28): Law360’s Anne Cullen reports that DEI consultants are seeing a gradual resurgence in corporate interest regarding DEI initiatives. Cullen acknowledges that, although DEI advocates have had some notable wins in the courts, lawsuits filed by conservative groups have had a dramatic chilling effect on corporate programs—including an outsized effect on small businesses and organizations without the financial capacity to mount a defense. But experts in the field say that the tide may be turning, with some noticing “a bottoming out, and some new entrants” to the corporate diversity field. Other consultants report observing “resurging interest” from corporate clients who “want to roll their sleeves up and do the work.” Experts recommend that companies be willing “to adapt and pivot,” including rebranding their programs to move away from the “DEI” label.

Case Updates:

Below is a list of updates in new and pending cases:

1. Contracting claims under Section 1981, the U.S. Constitution, and other statutes:

Californians for Equal Rights Foundation v. City of San Diego, No. 3:24-cv-00484 (S.D. Cal. 2024): On March 12, 2024, the Californians for Equal Rights Foundation filed a complaint on behalf of members who are “ready, willing and able” to purchase a home in San Diego, but are ineligible for a grant or loan under the City’s BIPOC First-Time Homebuyer Program. Plaintiffs allege that the program discriminates on the basis of race in violation of the Equal Protection Clause.
- Latest update: On June 18, 2024, the City of San Diego filed a motion for judgment on the pleadings. The City argued that the complaint does not include any allegations against the City, and instead alleges a “fictitious [agency] relationship” with the other defendants, the Housing Authority of the City of San Diego and the San Diego Housing Commission. The City also argued that even if the Plaintiff’s agency allegations were accepted as true, its claim against the Housing Authority and City still fails because “a local government may not be sued under § 1983 for an injury inflicted solely by its employees or agents.”
Valencia AG, LLC v. New York State Off. of Cannabis Mgmt. et al., No. 5:24-cv-116-GTS (N.D.N.Y. 2024): On January 24, 2024, Valencia AG, a cannabis company owned by white men, sued the New York State Office of Cannabis Management for discrimination, alleging that New York’s Cannabis Law and regulations favored minority-owned and women-owned businesses. The regulations include goals to promote “social & economic equity” (SEE) applicants, which the plaintiff claims violate the Fourteenth Amendment’s Equal Protection Clause and Section 1983. On March 13, 2024, the plaintiff filed an amended complaint, naming only two New York state officials as defendants in their official capacity. The plaintiff sought a permanent injunction against the regulations and a declaration that the use of race and sex in the New York Cannabis Law violates the Fourteenth Amendment. On April 24, 2024, the defendants moved to dismiss the amended complaint for lack of standing and failure to state an Equal Protection Clause claim, arguing that even without the contested policy the plaintiff would not have received the license due to their low “position in the queue.”
- Latest update: On June 20, 2024, the defendants filed a reply in support of their motion to dismiss. The defendants argued that the plaintiff lacks standing because its microbusiness license will be reviewed in the November queue under a recently adopted board resolution. Moreover, the defendants asserted that there is no risk of injury because “the Board and Office have interpreted the Cannabis Law and implementing regulations to be satisfied by front-end measures to aid [minority] SEE applicants such as community outreach, low-burden applications, and assistance if an application is found to be defective,” and that the plaintiff has not demonstrated that the defendants will deviate from this interpretation. The defendants also noted that they have submitted affidavits indicating that “applications are being reviewed solely for completeness and correctness, and thus that the race and gender of an applicant will play no role in whether an application is approved.”

2. Employment discrimination and related claims:

Sullivan v. Howard Univ., No. 1:24-cv-01924 (D.D.C. 2024): On July 1, 2024, a male administrator at Howard University filed suit against the university, claiming that he experienced sex discrimination and retaliation when he was transferred to another department.
- Latest Update: The docket does not reflect that Howard University has been served.
Gerber v. Ohio Northern Univ., No. 2023-1107-CVH (Ohio. Ct. Common Pleas Hardin Cty. 2024): On June 30, 2023, a law professor sued his former employer, Ohio Northern University, for terminating his employment after an internal investigation determined that he bullied and harassed other faculty members. On January 23, 2024, the plaintiff, now represented by America First Legal, filed an amended complaint. The plaintiff claims that his firing was actually in retaliation for his vocal and public opposition to the university’s stated DEI principles and race-conscious hiring, which he believed were illegal. The plaintiff alleged that the investigation and his termination breached his employment contract, violated Ohio civil rights statutes, and constituted various torts, including defamation, false light, conversion, infliction of emotional distress, and wrongful termination in violation of public policy.
- Latest update: On June 17, 2024, both parties filed motions for summary judgment. The defendants argued that the court should grant summary judgment because plaintiff’s claims of retaliation for expressing his views on DEI policies are not backed by evidence, including because he “advanced through the ranks at ONU” while making prolific remarks against DEI and affirmative action since at least 2005. The plaintiff moved for summary judgment on his breach-of-contract and defamation claims.
Weitzman v. Fred Hutchinson Cancer Center, No. 2:24-cv-00071-TLF (W.D. Wash. 2024): On January 16, 2024, a white Jewish female former employee sued the medical center where she used to work, alleging that she was terminated for expressing her discomfort with DEI-related content shared in the workplace by coworkers, objecting to DEI-related training, and expressing her political opposition to DEI-aligned ideologies. She also claimed that her employer failed to act when she was allegedly discriminated against because of her religion and race by other coworkers. The plaintiff alleged that her employer’s conduct constituted racial discrimination, a hostile work environment, and retaliation in violation of the Washington Law Against Discrimination and Section 1981; discrimination and retaliation on the basis of political ideology in violation of the Seattle Municipal Code; and intentional infliction of emotional distress and wrongful termination in violation of public policy under common law.
- Latest update: On June 25, the court granted the parties’ joint stipulation for dismissal and the claim was dismissed with prejudice.
DiBenedetto v. AT&T Servs., Inc., No. 21-cv-4527 (N.D. Ga. 2021): On November 2, 2021, the plaintiff, a white male former executive, brought claims against AT&T under Title VII, Section 1981, and the Age Discrimination in Employment Act (ADEA), alleging that he was wrongfully terminated due to his race, gender, and age.
- Latest update: On June 26, the parties jointly stipulated and agreed to the dismissal with prejudice of all claims in this action.
Newman v. Elk Grove Educ. Ass’n., No. 2:24-cv-01487-DB (E.D. Cal. 2024): On May 24, 2024, a white teacher at the Elk Grove Unified School District in Sacramento, California, sued the teachers’ union after it created an executive board position called the “BIPOC At-Large Director” open only to those who “self-identify” as “African American (Black), Native American, Alaska Native, Native Hawai’ian, Pacific Islander, Latino (including Puerto Rican), Asian, Arab, and Middle Eastern.” The plaintiff alleges that he is a union member who “wants to run for union office to address the District’s recent adoption of what he believes to be aggressive and unnecessary Diversity, Equity & Inclusion (‘DEI’) policies,” but is ineligible for this board seat because of his race. The plaintiff alleges that he therefore has fewer opportunities to obtain a board seat than non-white union members. He has brought claims against the union under Title VII of the Civil Rights Act of 1964 and the California Fair Employment and Housing Act.
- Latest update: The defendant’s response to the complaint is due on August 26, 2024.
Faculty, Alumni, and Students Opposed to Racial Preferences (FASORP) v. Northwestern University, No. 1:24-cv-05558 (N.D. Ill. 2024): A nonprofit advocacy group filed suit against Northwestern University, alleging that Northwestern University is violating Title VI, Title IX, and Section 1981 by considering race and sex in law school faculty hiring decisions. The suit also claims that student editors of the Northwestern University Law Review give discriminatory preferences to “women, racial minorities, homosexuals, and transgender people when selecting their members and edits,” as well as when choosing articles to include in the Law Review. The plaintiff is seeking to enjoin Northwestern from (1) considering race, sex, sexual orientation, or gender identity in the appointment, promotion, retention, or compensation of its faculty or the selection of articles, editors, and members of the Northwestern University Law Review, and (2) soliciting any information about the race, sex, sexual orientation, or gender identity of faculty candidates or applicants for the Law Review. The plaintiff is also asking the court to order Northwestern to establish a new policy for selecting faculty and Law Review articles, editors, and members, and to appoint a court monitor to oversee all related decisions.
- Latest update: The docket does not reflect that the defendant has been served.

The following Gibson Dunn attorneys assisted in preparing this client update: Jason Schwartz, Mylan Denerstein, Blaine Evanson, Molly Senger, Zakiyyah Salim-Williams, Matt Gregory, Zoë Klein, Mollie Reiss, Jenna Voronov, Alana Bevan, Marquan Robertson, Elizabeth Penava, Skylar Drefcinski, Mary Lindsay Krebs, David Offit, Lauren Meyer, Kameron Mitchell, Maura Carey, and Jayee Malwankar.

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, any member of the firm’s Labor and Employment practice group, or the following practice leaders and authors:

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

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

Mylan L. Denerstein – Partner & Co-Chair, Public Policy Group
New York (+1 212-351-3850, mdenerstein@gibsondunn.com)

Zakiyyah T. Salim-Williams – Partner & Chief Diversity Officer
Washington, D.C. (+1 202-955-8503, zswilliams@gibsondunn.com)

Molly T. Senger – Partner, Labor & Employment Group
Washington, D.C. (+1 202-955-8571, msenger@gibsondunn.com)

Blaine H. Evanson – Partner, Appellate & Constitutional Law Group
Orange County (+1 949-451-3805, bevanson@gibsondunn.com)

Many multinational companies based in or operating in the European Union will need to restructure their sanctions compliance programs to avoid potential sanctions violations and enforcement risks going forward.

Amidst a plethora of new restrictions on specific goods, vessels and parties, the EU’s 14th package against Russia (June 24, 2024) and latest Belarus sanctions (June 29, 2024) include a few fundamental changes in the territorial reach and substantive design of EU sanctions bolstering the EU’s anti-circumvention toolbox. Many multinational companies based in or operating in the European Union will need to restructure their sanctions compliance programs to avoid potential sanctions violations and enforcement risks going forward.

1. New Provision Changes the Reach of Russia Sectoral Sanctions as regards Non-EU Subsidiaries of EU Entities

According to the new Article 8a of Regulation (EU) 833/2014 (“Reg 833/2014”), EU companies shall undertake their best efforts to ensure that any non-EU company they own or control (“Non-EU Subsidiary”) does not participate in activities that undermine EU sectoral sanctions against Russia under Reg 833/2014.

This provision changes the treatment of Non-EU Subsidiaries under EU sanctions. To date, companies have been relying on general jurisdictional provisions laid down in each EU sanctions regulation (such as Article 13 of Reg 833/2014), according to which non-EU companies shall comply with EU sanctions only “in respect of any business done in whole or in part within the EU.” If a non-EU company maintained no nexus to the EU territory in its operations, it would not be obliged to comply with EU sanctions, even if it was a subsidiary of an EU company. In turn, as per Consolidated FAQs of the European Commission, the EU parent company was bound only in respect of its own actions, for example if clearing/green-lighting decisions taken by the Non-EU Subsidiary. It was understood that the EU parent company would not incur any liability for an independent conduct of a Non-EU Subsidiary it did not have any impact on. A similar understanding of who can be liable for sanctions violations is in fact common to many Western sanctions jurisdictions.

The new provision of Article 8a of Reg 833/2014 changes these dynamics. Remarkably, the jurisdictional provisions of Article 13 remain intact despite the amendment, so that non-EU companies doing business entirely outside the EU continue to be not subject to EU jurisdiction – this allows the EU legislator to uphold its regular claim that EU sanctions are never extraterritorial. However, the new provision of Article 8a forces EU parent companies, in order to avoid direct liability risks for themselves, to ensure that their Non-EU Subsidiaries practically comply with EU sanctions.

The new provision already instilled a debate of its enforceability as the “best efforts” requirement is seen to be too vague. Criminal liability will ultimately be defined by the interplay of Member State criminal laws and EU sanctions regulations, and in this respect, Article 8a might open the door for criminal enforcement agencies to prosecute EU companies in connection with the conduct of Non-EU Subsidiaries. One liability option seems to be that sanctions-undermining activities of a Non-EU Subsidiary would be attributed to the EU parent company as its own sanctions violation, if such an attribution is possible under criminal or administrative laws of the respective Member State. Alternatively, the executives of the EU parent company could be exposed to the criminal liability “by omission,” as for example practiced in German or Dutch legal systems. The respective offense would be a sanctions violation by virtue of failure to undertake necessary measures within the meaning of Article 8a of Reg 833/2014. In this regard, the widespread understanding that EU companies and their executives are not obliged (in a sense of a “guarantor’s duty” or “duty to care”) to ensure EU sanctions compliance in Non-EU Subsidiaries can no longer be upheld, at least in the context of sectoral sanctions against Russia. Instead, diligent and robust policies, procedures and systems should be put in place to avoid to the extent possible conduct by the Non-EU-Subsidiary that could be considered “undermining” EU sanctions.

With regard to the application of the new provision, Recitals 27-30 to Amending Regulation (EU) 2024/1745 provide for helpful clarifications:

“Ownership” and “control” of a non-EU company are defined in the same way as they are for party-based restrictions under financial sanctions; i.e., 50% or more of the proprietary rights for “ownership” and certain rights to exercise decisive influence for “control.”
Activities that undermine EU sanctions under Reg 833/2014 are those resulting in an effect that those restrictive measures seek to prevent. The Recitals use the example that a recipient in Russia obtains goods, technology, financing, or services of a type that is subject to prohibitions under Reg 833/2014, indicating that the prevention of such an outcome is at the core of the new provision of Article 8a.
With regard to the term “best efforts,” the Recitals clarify that:
- “Best efforts” comprise all actions suitable and necessary to achieve the result of preventing the undermining of EU sanctions under Reg 833/2014.
- Those actions can include, for example, the implementation of appropriate policies, controls, and procedures to mitigate and manage risk effectively, considering factors such as the country of establishment, the business sector, and the type of activity of the non-EU company owned or controlled by the EU company.
- At the same time, best efforts should be understood as comprising only actions that are feasible for the EU company in view of its nature, its size, and the relevant factual circumstances, particularly the degree of effective control over the non-EU company. In this context, the situation where the EU company is not able to exercise control over a non-EU company due to the legislation of a third country should be taken into account.

The placement of these clarifications in the Recitals indicates the challenges to find unanimity in introducing unequivocal requirements into the binding provisions of Reg 833/2014, so that they rather provide interpretative aid.

Notably, the new provision was adopted only within sectoral (Reg 833/2014) but not within party-based financial sanctions against Russia (Regulation (EU) 269/2014). However, within the new package of sanctions against Belarus adopted a few days later, the new provision with the same wording was added to the Belarus Sanctions Regulation (new Article 8h of Regulation (EU) 765/2006), which covers both sectoral and party-based financial measures.

It remains to be seen whether the new provision becomes a standard for EU sanctions in general. However, at least with respect the EU’s sectoral sanctions on Russia and for the EU’s Belarus sanctions, companies need to act now to extend their EU sanctions compliance programs to cover Non-EU Subsidiaries of EU parent companies.

2. Mandatory Sanctions Risk Assessment for Companies Trading with Common High Priority Items

Starting from the 12th sanctions package against Russia, the EU has begun to introduce novel obligations for companies trading with so called “common high priority items” (“CHPI”), i.e. items used in Russian military systems found on the battlefield in Ukraine or critical to the development, production or use of Russian military systems. In particular, the so called “No Russia Clause” of Article 12g of Reg 833/2014 obliged EU companies trading with CHPI in third countries (except a few partner countries) to contractually prohibit re-exportation to Russia or for use in Russia, and to provide for adequate remedies in the event of a breach of this contractual obligation.

The 14th sanctions package establishes further obligations for such companies. In particular, the new Article 12ga of Reg 833/2014 introduces a so called “No Russia IP Clause” obliging companies to contractually prohibit their third-country counterparts to use or sublicense IP rights and trade secrets in connection with CHPI being delivered to Russia or for use in Russia, and to provide for adequate remedies in the event of a breach of this contractual obligation.

Furthermore, the new Article 12gb of Reg 833/2014 obliges companies in CHPI industries, as of December 26, 2024, to conduct risk assessments as regards exportation to/for use in Russia, to ensure that those risk assessments are documented and kept up-to-date, and to implement appropriate policies, controls and procedures to mitigate and effectively manage such risks. EU persons must further ensure that non-EU companies owned or controlled by them are equally implementing these requirements. The same obligations apply within the framework of EU sanctions against Belarus by virtue of new Article 8ga of Regulation (EU) 765/2006.

This is not the first call for companies to implement such enhanced due diligence procedures at the EU level. On September 7, 2023, the European Commission provided its Guidance on Enhanced Due Diligence to shield against Russia sanctions circumvention, whereas the less detailed Notice 2022/C 145 I/01 called for due diligence measures as early as on April 1, 2022. Article 12gb of Reg 833/2014 is the first provision which transposes these calls into a binding obligation, albeit only for CHPI industries and in respect of CHPI items.

At the same time, Recital 36 to Amending Regulation (EU) 2024/1745 makes it clear that, if an EU operator in any industry failed to carry out appropriate due diligence, in particular on the basis of publicly or readily available information, it may not invoke the protection against liability granted under EU sanctions regulations to those who did not know, and had no reasonable cause to suspect, that their actions would infringe EU sanctions. Therefore, while companies in CHPI industries have no choice but to implement required due diligence mechanisms due to the new provision, companies in other industries can likewise be advised to do so in order to shield against substantial liability risks.

The following Gibson Dunn lawyers prepared this update: Nikita Malevanny, Benno Schwarz, Christopher Timura, Melina Kronester, Vanessa Ludwig, Irene Polieri, and Adam Smith.

Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding these issues. For additional information about how we may assist you, please contact the Gibson Dunn lawyer with whom you usually work, the authors, or the following leaders and members of the firm’s International Trade practice group:

Europe:
Attila Borsos – Brussels (+32 2 554 72 10, aborsos@gibsondunn.com)
Patrick Doris – London (+44 207 071 4276, pdoris@gibsondunn.com)
Michelle M. Kirschner – London (+44 20 7071 4212, mkirschner@gibsondunn.com)
Penny Madden KC – London (+44 20 7071 4226, pmadden@gibsondunn.com)
Irene Polieri – London (+44 20 7071 4199, ipolieri@gibsondunn.com)
Benno Schwarz – Munich (+49 89 189 33 110, bschwarz@gibsondunn.com)
Nikita Malevanny – Munich (+49 89 189 33 224, nmalevanny@gibsondunn.com)
Melina Kronester – Munich (+49 89 189 33 225, mkronester@gibsondunn.com)
Vanessa Ludwig – Frankfurt (+49 69 247 411 531, vludwig@gibsondunn.com)

United States:
Ronald Kirk – Co-Chair, Dallas (+1 214.698.3295, rkirk@gibsondunn.com)
Adam M. Smith – Co-Chair, Washington, D.C. (+1 202.887.3547, asmith@gibsondunn.com)
Stephenie Gosnell Handler – Washington, D.C. (+1 202.955.8510, shandler@gibsondunn.com)
Christopher T. Timura – Washington, D.C. (+1 202.887.3690, ctimura@gibsondunn.com)
David P. Burns – Washington, D.C. (+1 202.887.3786, dburns@gibsondunn.com)
Nicola T. Hanna – Los Angeles (+1 213.229.7269, nhanna@gibsondunn.com)
Courtney M. Brown – Washington, D.C. (+1 202.955.8685, cmbrown@gibsondunn.com)
Amanda H. Neely – Washington, D.C. (+1 202.777.9566, aneely@gibsondunn.com)
Samantha Sewall – Washington, D.C. (+1 202.887.3509, ssewall@gibsondunn.com)
Michelle A. Weinbaum – Washington, D.C. (+1 202.955.8274, mweinbaum@gibsondunn.com)
Chris R. Mullen – Washington, D.C. (+1 202.955.8250, cmullen@gibsondunn.com)
Sarah L. Pongrace – New York (+1 212.351.3972, spongrace@gibsondunn.com)
Anna Searcey – Washington, D.C. (+1 202.887.3655, asearcey@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)
Claire Yi – New York (+1 212.351.2603, cyi@gibsondunn.com)
Shuo (Josh) Zhang – Washington, D.C. (+1 202.955.8270, szhang@gibsondunn.com)

Asia:
Kelly Austin – Hong Kong/Denver (+1 303.298.5980, kaustin@gibsondunn.com)
David A. Wolber – Hong Kong (+852 2214 3764, dwolber@gibsondunn.com)
Fang Xue – Beijing (+86 10 6502 8687, fxue@gibsondunn.com)
Qi Yue – Beijing (+86 10 6502 8534, qyue@gibsondunn.com)
Dharak Bhavsar – Hong Kong (+852 2214 3755, dbhavsar@gibsondunn.com)
Felicia Chen – Hong Kong (+852 2214 3728, fchen@gibsondunn.com)
Arnold Pun – Hong Kong (+852 2214 3838, apun@gibsondunn.com)

The Final Regulations generally apply to qualified facilities placed in service in tax years ending after June 25, 2024.

On June 25, 2024, the IRS and Treasury published final Treasury regulations (the “Final Regulations”) on the prevailing wage and apprenticeship requirements (the “PWA Requirements”) that taxpayers must[1] satisfy to receive the full amount[2] of certain tax credits provided for in the Inflation Reduction Act of 2022 (the “IRA”).[3] The Final Regulations build upon the proposed Treasury regulations (the “Proposed Regulations”) issued on August 30, 2023 (our earlier alert on the Proposed Regulations is available here)

The Final Regulations generally apply to qualified facilities placed in service in tax years ending after June 25, 2024. For facilities that either (1) began construction on or after January 29, 2023 and before June 25, 2024 or (2) were placed in service in taxable years ending on or before June 25, 2024, taxpayers may choose to apply either the Final Regulations or the Proposed Regulations, as long as the chosen guidance is applied consistently.[4]

Background

At a high level, the “prevailing wage requirement” requires that all laborers and mechanics employed by a taxpayer (or a contractor or subcontractor) claiming an applicable credit[5] be paid wages for construction, alteration, or repair of the applicable facility that are not less than the “prevailing” wage for the type of work performed. The “apprenticeship requirement” generally requires a certain percentage of labor hours be performed by apprentices working under the supervision of experienced laborers. Our prior alert (which is available here) summarizes these requirements in greater detail.

Key Changes to Prevailing Wage Requirements

The Final Regulations provide several crucial clarifications to earlier guidance (including the Proposed Regulations) relating to the prevailing wage requirement.

Timing of Wage Determination

Taxpayers generally must consult guidance published by the Wage and Hour Division of the Department of Labor to determine prevailing wages. Unlike the Proposed Regulations, which would have set the applicable wage rate as the one in effect at the beginning of construction, the Final Regulations stipulate that the applicable wage rate is the one in effect when a contract for the construction, alteration, or repair of a facility is executed. Only if there is no contract is the timing of the wage determination determined on when construction begins. If a taxpayer enters into a generalized contract for alteration or repair work (i.e., a contract that does not call for any specific work) for an indefinite period of time, the applicable wage rates must be refreshed on an annual basis, so taxpayers cannot lock in lower wages (or be locked into higher wages) through vague, long-term contracts.

Curing Failures to Pay Appropriate Wages

In some instances, taxpayers seeking to fix failures to pay appropriate wages can avoid penalties if they self-correct. The Final Regulations modify the Proposed Regulations by specifying that self-correction must be made by the last day of the first month following the end of the calendar quarter in which the failure occurred (as opposed to the Proposed Regulations, which would have required the correction payment to be made within 30 days after the taxpayer became aware of the error or the date on which the increased credit was claimed).

Additionally, the Final Regulations add a further clarification to these correction payments rules: if a former worker cannot be found, a taxpayer will be deemed to make a correction payment if it complies with state unclaimed property laws and all federal and state withholding information reporting requirements. This provision addresses the concern of some taxpayers, expressed after the issuance of the Proposed Regulations, that correction payments might not be possible if an underpaid worker could not be found.[6]

Key Changes to Apprenticeship Requirements

The Final Regulations also include important clarifications related to the apprenticeship requirements, including those highlighted below.

Applicability After Facility is Placed in Service

Under the Proposed Regulations, it was unclear whether the apprenticeship requirements continued to apply after a particular facility was placed in service. The Final Regulations make clear that the apprenticeship requirements cease to apply to alteration or repair work once a facility is placed in service.

Threshold Number of Construction Employees

The Final Regulations confirm that the apprenticeship requirements apply only to taxpayers, contractors, or subcontractors who employ four or more individuals to perform construction, alteration, or repair work in connection with the construction of a qualified facility. The Final Regulations clarify that the four-employee threshold applies over the course of the construction, regardless of whether the employees are employed at the same location or at the same time, increasing the likelihood that the apprenticeship requirements will apply to small contractors or subcontractors.[7]

Requests to Registered Apprenticeship Programs

The Proposed Regulations provided that if a taxpayer made a request for apprentices to a registered apprenticeship program and received a denial or nonresponse, the taxpayer must submit additional requests every 120 days in order to meet the good faith effort exception (to the extent applicable, this exception excuses a taxpayer from complying with the apprenticeship requirements). In response to comments, the Final Regulations relaxed this requirement to provide that the taxpayer only needs to submit additional requests 365 days (or, if applicable, 366 days) after the denial of a previous request to continue to satisfy the good faith effort exception.

Key Changes to Recordkeeping Requirements

The Final Regulations include some important adjustments to the recordkeeping requirements for the PWA Requirements.

Personal Identifying Information

The Proposed Regulations would have required the collection of sensitive personal identifying information, including social security numbers, with respect to the employees of the taxpayer and the employees of contractors or subcontractors. The Final Regulations alter this requirement to provide that only the last four digits of an employee’s social security number must be collected.

Options for Compliance

The Final Regulations provide three ways to comply with the recordkeeping requirements:

Taxpayers may collect and physically retain relevant records from contractors and subcontractors, with certain personally identifiable information redacted so long as unredacted information is made available to the IRS upon request.
Contractors and subcontractors may provide relevant records to a third-party vendor to physically retain on behalf of the taxpayer, with certain sensitive information redacted so long as unredacted information is made available to the IRS upon request.
Taxpayers, contractors, and subcontractors may each physically retain the relevant unredacted records for their own employees, and those unredacted records must be made available to the IRS upon request.

[1] Compliance with the PWA Requirements is not required for facilities (i) that have a maximum net output or storage capacity of less than one megawatt or (ii) the construction of which began before January 29, 2023.

[2] Technically, the baseline tax credit is multiplied by five if the PWA Requirements are met, resulting in a tax credit amount that traditionally has been considered the full amount of the federal income tax credits that may be claimed in respect of clean energy technologies. This full credit amount also can be increased by so-called adders, such as the domestic content adder and the energy community adder. Please see our prior alerts on these adders, which can be found here, here, and here, respectively.

[3] As was the case with the so-called Tax Cuts and Jobs Act, the Senate’s reconciliation rules prevented Senators from changing the Act’s name, and the formal name of the so-called Inflation Reduction Act is actually “An Act to provide for reconciliation pursuant to title II of S. Con. Res. 14.” In addition to tax credit guidance, the Final Regulations also include guidance regarding the PWA Requirements under section 179D, which provides a deduction for the cost of energy efficient commercial building property placed in service during the taxable year.

[4] Unless indicated otherwise, all “section” references are to the Internal Revenue Code of 1986, as amended.

[5] Tax credits with a prevailing wage or apprenticeship requirement include those credits provided for under sections 30C, 45, 45L, 45Q, 45U, 45V, 45Y, 45Z, 48, 48C, and 48E.

[6] The preamble to the Proposed Regulations stated, “[t]he Treasury Department and the IRS expect that taxpayers will be able to establish correction payments even when a former laborer or mechanic cannot be located.”

[7] The Final Regulations clarify that the hours devoted to the performance of construction, alteration, or repair work by any qualified apprentice in excess of the applicable ratio requirement will be counted towards the total labor hours but will not be counted as hours performed by qualified apprentices for purposes of the labor hours requirement applicable to qualified apprentices.

The following Gibson Dunn lawyers prepared this update: Mike Cannon, Matt Donnelly, Josiah Bethards, Duncan Hamilton, Blake Hoerster, and Nathan Sauers.

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

Tax:
Michael Q. Cannon – Dallas (+1 214.698.3232, mcannon@gibsondunn.com)
Matt Donnelly – Washington, D.C. (+1 202.887.3567, mjdonnelly@gibsondunn.com)
Josiah Bethards – Dallas (+1 214.698.3354, jbethards@gibsondunn.com)
Blake Hoerster– Dallas (+1 214.698.3180, bhoerster@gibsondunn.com)
Duncan Hamilton– Dallas (+1 214.698.3135, dhamilton@gibsondunn.com)
Nathan Sauers – Houston (+1 346.718.6715, nsauers@gibsondunn.com)

Cleantech:
John T. Gaffney – New York (+1 212.351.2626, jgaffney@gibsondunn.com)
Daniel S. Alterbaum – New York (+1 212.351.4084, dalterbaum@gibsondunn.com)
Adam Whitehouse – Houston (+1 346.718.6696, awhitehouse@gibsondunn.com)

Power and Renewables:
Peter J. Hanlon – New York (+1 212.351.2425, phanlon@gibsondunn.com)
Nicholas H. Politan, Jr. – New York (+1 212.351.2616, npolitan@gibsondunn.com)

National Association of Manufacturers v. SEC, No. 22-51069 – Decided June 26, 2024

A unanimous Fifth Circuit panel vacated the SEC’s 2022 rescission of its 2020 proxy firm disclosure rule because the SEC failed to explain why the factual findings that supported the 2020 Rule were incorrect.

“[T]he SEC acted arbitrarily and capriciously in two ways. First, the agency failed adequately to explain its decision to disregard its prior factual finding that the notice-and-awareness conditions posed little or no risk to the timeliness and independence of proxy voting advice. Second, the agency failed to provide a reasonable explanation why these risks were so significant under the 2020 Rule as to justify its rescission.”

JUDGE JONES, writing for the Court

Background:

Shareholders of public companies are generally permitted under state law and SEC rules to vote on a variety of corporate-governance issues during shareholder meetings. Most shareholders do not attend these meetings in person, so they cast their votes by proxy. Institutional investors, who own a sizeable percentage of public company stock, vote in thousands of these meetings. They often retain proxy firms, such as Institutional Shareholder Services and Glass Lewis, to provide research and to advise them on how to vote.

SEC rules relating to proxy regulations, among other things, prohibit persons who solicit proxies from making misstatements or omissions of material fact in their solicitations and require such persons to furnish the targets of their solicitations with proxy statements containing certain disclosures. But proxy firms are also eligible for exemptions from these rules if they comply with certain conditions, and the business models of proxy firms rely on the availability of such exemptions.

Over the years, as proxy advisors grew in influence, however, concerns emerged about their practices. The proxy advisor market is “effectively a duopoly, because two firms . . . control roughly 97% of the market,” and “[i]nvestors, registrants, and others” began questioning the “accuracy of the information and the soundness of the advice that proxy firms provide” to shareholders and complaining about potential conflicts of interest and “the proxy firms’ unwillingness to engage with issuers to correct errors.” Nat’l Ass’n of Manufacturers v. SEC, No. 22-51069, 2024 WL 3175755, at *1 (5th Cir. June 26, 2024).

To address these and other concerns, the SEC undertook “nearly ten years of study and collaboration with all interested parties spanning two presidential administrations.” Id. at *2. This effort culminated in 2019, with the SEC’s proposal of a new rule that imposed additional conditions on the availability of exemptions for proxy firms. Importantly, amongst other requirements, the proposal required that proxy firms “provide registrants”—including public companies—“time to review and provide feedback on the advice before it is disseminated to the proxy firm’s clients.” Id. (cleaned up) (emphasis added). The rule’s purpose was to ensure the reliability and accuracy of the proxy firms’ advice by allowing a registrant an opportunity to correct any inaccuracies before dissemination. During the SEC’s 60-day comment period, however, some commentators expressed concern that the rule would delay and undermine the independence of the proxy firms’ advice.

When it adopted the rule in 2020 (the “2020 Rule”), the SEC addressed those concerns by requiring proxy firms (1) to provide their advice to registrants “at or prior to” the time they give their advice to their clients and (2) to allow their clients to see any written statements the registrant provided about the advice before the shareholder meeting. Id. at *3 (emphasis in original). Between the time the SEC finalized the rule and the date that proxy firms were required to comply with the new conditions, there entered a new SEC administration.

In November 2021, after all the SEC’s collaboration and deliberation, and just days before proxy firms were required to comply with the 2020 Rule, the new administration of the SEC published its proposal to rescind the 2020 Rule. It did so only after the new SEC chairman took office, held a closed-door meeting with the opponents of the 2020 Rule, suspended its enforcement, and directed his staff to reconsider the regulation in full. In July 2022, over the dissent of two commissioners, the SEC formally rescinded the 2020 Rule, citing the same “timeliness” and “independence” concerns that the agency previously concluded the 2020 Rule was designed to address—all without explaining its change in position. Id. at *4.

Issue:

Is it arbitrary and capricious for an agency to reject its previous factual findings without explaining why those findings were incorrect?

Court’s Holding:

Yes. An agency must provide a detailed explanation when rejecting prior factual findings.

What It Means:

The Fifth Circuit’s decision makes clear that, although a new administration may rescind prior rules, the agency must adequately explain any departure from its prior factual findings. Litigants seeking to challenge an agency’s flip-flop should pay careful attention to the agency’s justification for the change—particularly when it involves contradicting prior agency fact finding.
The Fifth Circuit’s decision also underscores courts’ refusal to credit agency litigation positions or other post hoc rationalizations for an agency’s change in position: “[I]n reviewing an agency’s action, we may consider only the reasoning articulated by the agency itself; we cannot consider post hoc rationalizations.” Id. at *8 (cleaned up).
The Fifth Circuit also confirmed that the “default” remedy when “an agency rule violates the APA” is “vacatur”—indeed, a court “shall—not may—hold unlawful and set aside [such] agency action.” Id. at *9 (cleaned up). Accordingly, successful challenges to any agency’s rule will generally result in the rule being set aside.
This case was one of many challenges relating to SEC rulemaking regarding the regulation of proxy advisory firms. For instance, the D.C. District Court recently held, regarding another part of the 2020 Rule defining “solicit,” that “the SEC acted contrary to law and in excess of statutory authority when it amended the proxy rules’ definition of ‘solicit’ and ‘solicitation’ to include proxy voting advice for a fee.” ISS Inc. v. SEC, No. 19-CV-3275, 2024 WL 756783, at *2 (D.D.C. Feb. 23, 2024), notices of appeal filed, Nos. 24-5105, 24-5112 (D.C. Cir.). And the Western District of Texas previously held that the SEC’s suspension of the 2020 Rule was unlawful because it was done without notice and comment. NAM v. SEC, 631 F. Supp. 3d 423 (W.D. Tex. 2022).
Future SEC rules directed at proxy firms will likely continue to face challenges in court. The proxy advisor industry is also likely to continue to face challenges over the issues that led to the 2020 Rule. Moreover, corporations, investors, and proxy advisors will need to work to address these concerns in an often politicized corporate governance environment.

The Court’s opinion is available here.

Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding developments at the U.S. Supreme Court. Please feel free to contact the following practice group leaders:

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This alert was prepared by associates Brian Richman, Elizabeth A. Kiernan, and Brian Sanders.

Corner Post v. Board of Governors, Federal Reserve System, No. 22-1008 – Decided July 1, 2024

Today, the Supreme Court held 6–3 that the six-year clock to bring a claim under the Administrative Procedure Act starts when an agency rule injures the plaintiff, not when the agency issues the rule.

“An APA plaintiff does not have a complete and present cause of action until she suffers an injury from final agency action, so the statute of limitations does not begin to run until she is injured.”

JUSTICE BARRETT, writing for the Court

Background:

In 2011, the Federal Reserve Board promulgated Regulation II, which caps interchange fees payment networks can charge merchants on debit-card transactions. The D.C. Circuit rejected a challenge under the Administrative Procedure Act (“APA”) to Regulation II in 2014, holding that the rule “generally rest[s] on reasonable constructions of the statute.” NACS v. Board of Governors of FRS, 746 F.3d 474, 477 (D.C. Cir. 2014). In 2018, a convenience store called Corner Post opened its doors and first paid fees under Regulation II. Three years later, Corner Post filed an APA claim challenging Regulation II.

The Eighth Circuit held that Corner Post’s suit was untimely. The APA allows suit by any person who has suffered a “legal wrong” or been “adversely affected” by an agency rule. 5 U.S.C. § 702. An APA challenge to an agency rule must be “filed within six years after the right of action first accrues.” 28 U.S.C. § 2401(a). Aligning itself with eight other circuits, the Eighth Circuit ruled that APA claims must be brought within six years of the rule’s promulgation, even if the plaintiff could not have filed its own claim within that initial six-year period. That decision split with the Sixth Circuit, which had held that an APA claim accrues (and the six-year limitations period thus starts) only once the agency rule injures the particular plaintiff. The Supreme Court granted review to resolve the conflict.

Issue:

Whether a plaintiff’s APA claim first accrues when an agency issues a rule—regardless of whether that rule injures the plaintiff on that date—or when the rule first adversely affects the plaintiff.

Court’s Holding:

An APA claim accrues, and the six-year statute of limitations begins to run, only when an agency rule injures the plaintiff.

What It Means:

Today’s decision means that the timeliness of an APA claim does not turn on when the agency rule was promulgated or when someone else could have challenged it. Instead, it turns on when the particular plaintiff challenging the agency rule was first injured by the rule. The Court relied on the APA’s “basic presumption” of judicial review and the “deep-rooted historic tradition that everyone should have his own day in court.” Op. 21–22. As a result, an APA claim challenging an agency rule is timely when the plaintiff was first injured by the rule within six years of filing suit—even if the rule was promulgated more than six years ago.
The Court’s decision also amplifies the impact of its decision in Loper Bright to overrule Chevron v. NRDC. As the Court explained, the D.C. Circuit relied on Chevron in its 2014 decision rejecting an APA challenge to Regulation II, holding that the regulation “rest[ed] on reasonable constructions of the statute.” Op. 2. On remand, the district court and Eighth Circuit will address Regulation II’s validity without deferring to the Federal Reserve Board’s interpretation of the relevant federal statutes.
In dissent, Justice Jackson predicted that the Court’s adoption of a plaintiff-specific accrual rule for APA claims could clear the way to new challenges to decades-old regulations.

The Court’s opinion is available here.

Appellate and Constitutional Law

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Lucas C. Townsend +1 202.887.3731 ltownsend@gibsondunn.com	Bradley J. Hamburger +1 213.229.7658 bhamburger@gibsondunn.com	Brad G. Hubbard +1 214.698.3326 bhubbard@gibsondunn.com

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This alert was prepared by associates Grace Hart and Patrick Fuster.

Gibson Dunn discusses the background of the Opinion, the key findings and our main takeaways for both States and private actors, including the potential influence of the Opinion on future climate change litigation.

On 21 May 2024, the International Tribunal for the Law of the Sea (“ITLOS” or “Tribunal”) became the first international court to issue an advisory opinion on States’ obligations in respect to climate change (“Opinion”). The Tribunal concluded that anthropogenic (i.e. human-caused) greenhouse gas emissions (“GHGs”) constitute “pollution of the marine environment” under the United Nations Convention on the Law of the Sea (“UNCLOS” or “Convention”), triggering certain positive obligations of States, including a duty to prevent, reduce and control both land- and sea-based anthropogenic GHGs.

The Opinion is the first in a trio of advisory opinions by international courts that will likely be issued within twelve months of each other. It is envisaged that next, the Inter-American Court of Human Rights (“IACHR”) will deliver its opinion regarding States’ obligations derived from human rights norms in relation to the climate emergency. The International Court of Justice (“ICJ”) will then opine on the obligations of States under international law to ensure the protection of the climate system from anthropogenic GHGs for present and future generations, as well as the legal consequences for States where they, by their acts and omissions, have caused significant harm to the climate system. These opinions are expected in early- and mid- 2025, respectively.

Notably, the Opinion was issued just six weeks after the European Court of Human Rights’ (“ECtHR’s”) judgment in KlimaSeniorinnen v. Switzerland, in which the ECtHR, for the first time in its history, prescribed the content of States’ positive obligations under Article 8 of the European Convention on Human Rights (“ECHR”) in the context of climate change. According to the ECtHR, States have a primary duty to adopt, and to effectively apply in practice, general measures for achieving carbon neutrality—and with a view to achieving neutrality within the next three decades. (We previously reported on KlimaSeniorinnen here.)

In this Client Alert, we discuss the background and the potential implications of the Opinion for both States and private actors as well as offering our key takeaways.

Background

The Advisory Opinion was issued pursuant to a request (“Request”) by the Commission of Small Island States on Climate Change and International Law (“COSIS”). COSIS was established in 2022 and comprises eight States, which are low emitters of GHGs, but highly vulnerable to the impacts of climate change.

On 12 December 2022, COSIS asked ITLOS to opine on the specific obligations of States Parties to UNCLOS, including under Part XII (“Protection and Preservation of the Marine Environment”) to:

prevent, reduce and control pollution of the marine environment in relation to the deleterious effects that result or are likely to result from climate change, including through ocean warming and sea level rise, and ocean acidification, which are caused by anthropogenic GHGs into the atmosphere; and
protect and preserve the marine environment in relation to climate change impacts, including ocean warming and sea level rise and ocean acidification.

Part XII of the Convention sets out an affirmative and overarching general obligation “to protect and preserve the marine environment” (Article 192) followed by specific obligations—including to “take … all measures … necessary” to “prevent, reduce and control pollution of the marine environment from any source” (Article 194(1)) and “ensure that activities under their jurisdiction or control are so conducted as not to cause damage by pollution to other States and their environment” (Article 194(2)).

More than 50 States, inter-governmental and non-governmental organisations made written and oral submissions in the ITLOS proceedings, presenting a range of views as to how the questions in the Request should be answered.

ITLOS’ Key Conclusions

(a) Anthropogenic GHGs constitute “pollution of the marine environment”

Importantly, the Tribunal found that anthropogenic GHGs in the atmosphere constitute “pollution of the marine environment” within the meaning of Article 1(1)(4) of the Convention as it satisfies the three criteria of: (i) there being a substance or energy; (ii) the substance or energy is introduced by humans, directly or indirectly, into the marine environment; and (iii) such introduction results, or is likely to result, in deleterious effects. This finding triggered certain obligations for States under UNCLOS Part XII (and other relevant UNCLOS provisions)—some of which are discussed below.

In coming to this conclusion, the Tribunal (similarly to the ECtHR) relied on reports from the Inter-governmental Panel on Climate Change (“IPCC”) as authoritative assessments of the scientific knowledge on climate change. In this regard, the Tribunal noted that none of the participants had challenged the authoritative value of the IPCC reports.

(b) State Parties have an obligation to prevent, reduce and control pollution from anthropogenic GHGs

Article 194(1) of UNCLOS imposes an obligation upon States to take “all necessary measures” to reduce and control marine pollution from any source including anthropogenic GHGs—and eventually prevent such pollution from occurring at all. However, consistent with the Paris Agreement, this obligation does not require “immediate cessation” of marine pollution from anthropogenic GHGs.

Whilst the concept of “all necessary measures” is not defined in UNCLOS, the Tribunal considered that among such measures are those designed to reduce GHG emissions—commonly referred to as “mitigation measures” in the climate context. Similar to KlimaSeniorinnen, ITLOS explained that it is up to the State to determine what measures are necessary, but such measures must be determined “objectively”: (i) first, on the basis of the “best available science”—in which context the IPCC reports “deserve particular consideration”; and second, with reference to relevant international rules and standards—where the United Nations Framework Convention on Climate Change (“UNFCCC”) and the 2015 Paris Agreement “stand out … as primary treaties”, and in particular the objective in the Paris Agreement of limiting the temperature increase to 1.5° compared to pre-industrial levels.

(c) The nature of the obligation to prevent, reduce and control pollution (including transboundary pollution) is one of stringent due diligence, i.e. an obligation of conduct

The obligation to prevent, reduce and control pollution is an obligation of conduct. In other words, by this obligation, States are required to act with due diligence in taking necessary measures—and the level is stringent because of the high risks of serious and irreversible harm to the marine environment that anthropogenic GHGs present. The obligation of due diligence requires a State “to put in place a national system, including legislation, administrative procedures and an enforcement mechanism necessary to regulation … and to exercise adequate vigilance … with a view to achieving the intended objective”. The obligation is “particularly relevant” in a situation in which activities are mostly carried out by private actors. States must also apply the precautionary approach in their exercise of due diligence.

According to ITLOS, the standard of due diligence will vary according to scientific information, relevant international rules and standards, the risk of harm and the urgency involved. The implementation of the obligation may also vary according to the relevant States’ capabilities and resources.

(d) State Parties have an obligation to prevent, reduce and control transboundary pollution

Further, State Parties have a particular obligation with respect to transboundary pollution. States must “take all necessary measures” to ensure GHG emissions under their jurisdiction or control do not cause damage to other States and their environment, and pollution arising from such emissions does not spread beyond the areas where they exercise sovereign rights. The standard of due diligence in this context “can be even more stringent” because of the nature of transboundary pollution.

(e) State Parties have an obligation to implement laws and regulations to prevent, reduce and control marine pollution—including from land-based sources

As the Tribunal went on to discuss, there also exist complimentary obligations (Articles 207, 211 and 212), whereby State Parties must implement laws and regulations, to prevent, reduce and control marine pollution from land-based sources, as well as aircraft and vessels, taking account of treaties such as the UNFCCC and the Paris Agreement. The Tribunal explained that “central to” those laws and regulations is the reduction of anthropogenic GHG emissions, and measures “can be wide-ranging, from the establishment of administrative procedures for the regulation of pollution to the monitoring of risks and effects of marine pollution”.

(f) State Parties are required to undertake Environmental Impact Assessments (“EIAs”)

State Parties are, additionally, required to conduct EIAs under Article 206—which are “an essential part of a comprehensive environmental management system”. The EIA obligation is triggered when there are “reasonable grounds for believing” that the activities “may cause substantial pollution of or significant and harmful changes to the marine environment”.

Article 206 does not prescribe the scope and content of EIAs and so the Tribunal proceeded to fill in the gaps. On scope, it explained that activities under assessment are those within a State’s jurisdiction or control and comprise those of both private and State entities. Further, both sea- and land-based activities are included. Concerning content, the Tribunal noted that EIAs should embrace not only the specific aspects of the planned activities but the cumulative impacts of these and other activities on the environment. The Tribunal observed that the Agreement on the Conservation and Sustainable Use of Marine Biological Diversity of Areas Beyond National Jurisdiction contains detailed provisions on EIAs, implying that such provisions provide a suitable benchmark.

(g) State Parties must keep under surveillance the effects of activities that States have permitted, or in which they are engaged

State Parties must also keep under surveillance the effects of activities that States have permitted, or in which they are engaged. This obligation applies irrespective of the place where the activities are conducted or the nationality of the individuals or entities carrying out the activities.

(h) State Parties have the specific obligation to protect and preserve the marine environment from climate change impacts and ocean acidification

Under Article 192 of UNCLOS, State Parties have the specific obligation to protect and preserve the marine environment from climate change impacts and ocean acidification (which entails maintaining ecosystem health and the natural balance of the marine environment). This obligation has a broad scope, encompassing any type of harm or threat to the marine environment. Where the marine environment has been degraded, this obligation may call for measures to restore marine habitats and ecosystems. Again, the obligation is one of due diligence of a stringent standard.

Our Key Takeaways

The Opinion delivered by ITLOS is of considerable significance for many reasons. We have the following key takeaways:

First, while an advisory opinion from ITLOS does not create legally enforceable obligations on State Parties, they are nonetheless highly persuasive authorities for both international and domestic courts, in that an advisory opinion contributes to the clarification and development of international law.

The Opinion will, in our view, prove influential in the context of both pending and future climate change-related claims before international and domestic courts—particularly in cases against States[1] and / or State actors where it is alleged that actions being taken to mitigate against the effects of climate change are insufficient. This may include claims that supervision of non-State actors is lacking—and, in that regard, the Opinion referred, at paragraph 396, to the obligation on States to “ensure that non-State actors under their jurisdiction or control comply with such measures”.

It is worth noting that the Tribunal emphasised that failure to comply with the obligation to “take all necessary measures” would engage State responsibility. This suggests that a failure by a State Party to act leaves it vulnerable to UNCLOS proceedings pursuant to Article 235(1) in future (“States are responsible for the fulfilment of their international obligations concerning the protection and preservation of the marine environment”)—and/or claims that a State Party has failed to provide recourse to prompt and adequate compensation (or other relief) in respect of damage caused by marine pollution by juridical persons under their jurisdiction pursuant to Article 235(2).

Second, the Opinion is likely to have a “cross-fertilisation” effect. We expect that the IACHR and ICJ will seek to render advisory opinions that are consistent with the thrust of the ITLOS Opinion, albeit within their respective and somewhat different normative frameworks (and also to core elements of the ECtHR’s judgment in KlimaSeniorinnen). The task of the ICJ, however, will be a broader exercise since it will also deal with the question of “legal consequences” of State obligations in relation to climate change.

Third, the Opinion may prompt a regulatory response from States in terms of limiting GHG emissions from both sea- and land-based sources—though our view is that the ICJ advisory opinion may prove more influential in that regard to the extent that the ICJ opines on the substance of the Paris Agreement. Private actors should monitor changes to the regulatory landscape that may impact their operations.

Fourth, with respect to the Paris Agreement, the Opinion makes clear that UNCLOS exists alongside it (and the UNFCCC) as a legal basis for obligations to address climate change and its effects. Thus, the Opinion treats the UNCLOS and Paris Agreement regimes as distinct noting that States’ compliance with the Paris Agreement alone will not be sufficient to discharge the obligation to prevent, reduce and control pollution of the marine environment under UNCLOS. Likewise, ITLOS did not seek to tie “necessary measures” to the requirements under the Paris Agreement—such as the commitment in Article 4(2) to prepare, communicate and maintain successive nationally determined contributions that a State Party intends to achieve.

Fifth, the positive obligation to conduct EIAs where an activity may cause substantial pollution to the marine environment articulated in the Opinion is noteworthy. It may, for example, affect oil and gas licensing processes for exploration and production (both on- and offshore) as well as other high GHG-emitting projects. Of course, EIAs are routinely carried out in any event in many States. However, as noted, the EIA contemplated by the Tribunal includes “continuing surveillance” and an assessment of the “cumulative impact” of a project. EIAs will also now (in theory) have to be conducted in the context of the Tribunal’s clarification that anthropogenic GHGs constitute pollution of the marine environment. One can expect climate litigants to closely scrutinise the processes and outcomes of EIAs for high GHG emitting projects.

Finally, whilst the Opinion was unanimous, there was discussion by some judges in their Declarations to the Opinion of the relevance of human rights in interpreting obligations under UNCLOS. In the Opinion, the Tribunal merely states, in brief, that “climate change represents an existential threat and raises human rights concerns”.

In Judge Pawlak’s view, the Opinion could have gone further, “reflect[ing] the broader implications of recent developments in climate change justice”, specifically referring to the ECtHR’s KlimaSeniorinnen judgment. He acknowledged that pursuant to KlimaSeniorinnen, States have the responsibility to combat climate change to protect human rights and the decision “created preceden[t]” for other judicial institutions. Indeed, in Judge Pawlak’s view, KlimaSeniorinnen (as well as the UN Human Rights Committee’s decision in the Torres Strait Islanders case)—”which added human rights considerations to the global fight against climate change”—are “essential” and “not isolated.”

Judge Infante Caffi meanwhile thought the reference to human rights in the Opinion could have been supplemented by further arguments, noting the reference to human rights in the preamble to the Paris Agreement and the UN General Assembly’s resolution 76/300 with [t]he human right to a clean, healthy and sustainable environment”.

[1] In that context, please note that UNCLOS has been ratified by 168 parties. Notably, whilst the European Union has ratified the Convention, the United States has not.

The following Gibson Dunn lawyers prepared this update: Robert Spano, Ceyda Knoebel, Stephanie Collins, Alexa Romanelli, Sophie Hammond, and Daniel Szabo*.

Gibson Dunn’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, any leader or member of the firm’s International Arbitration and Transnational Litigation or Environmental, Social and Governance (ESG) practice groups, or the following authors:

Robert Spano – Paris/London (+33 1 56 43 14 07, rspano@gibsondunn.com)
Ceyda Knoebel – London (+44 20 7071 4243, cknoebel@gibsondunn.com)
Stephanie Collins – London (+44 20 7071 4216, SCollins@gibsondunn.com)
Alexa Romanelli – London (+44 20 7071 4269, aromanelli@gibsondunn.com)
Sophie Hammond – London (+44 20 7071 4077, shammond2@gibsondunn.com)

*Daniel Szabo, a trainee solicitor in the London office, is not admitted to practice law.

The Directive extends the list of criminal offenses to the environment on EU level. EU Member States have two years to transpose the directive into national law after the its entry into force on May 20, 2024.

On April 30, 2024, the European Union (the “EU”) published directive 2024/1203 on the protection of the environment through criminal law (the “Directive”) in its official journal.[1] The Directive was adopted by the European Parliament (the “Parliament”) on February 27, 2024[2] and by the European Council (the “Council”) on March 26, 2024[3].

The goal of the Directive is to combat environmental offenses more effectively. To this end, it introduces (i) new environment-related criminal offenses, (ii) detailed requirements regarding sanctioning levels for both natural and legal persons and (iii) a variety of measures that Member States must take in order to either prevent or effectively prosecute offenses.

The Directive will come into force on May 20, 2024[4], after which the Member States (with the exception of Ireland and Denmark[5]) will have 24 months to transpose it into national law.[6] Importantly, the Directive by its nature only establishes minimum requirements. Member States may choose to go beyond those minimum requirements and adopt stricter criminal laws when implementing the Directive.

Key Takeaways

The Directive provides for 20 environment-related criminal offenses.
The Directive introduces “qualified offenses” with more severe punishment in cases of “ecocide” consisting of “(a) the destruction of, or widespread and systematic damage, which is either irreversible or long-lasting to, an ecosystem of considerable size or environmental value or a habitat within a protected site, or (b) widespread and substantial damage which is either irreversible or long lasting to the quality of air, soil, or water”.
Conduct shall be deemed unlawful even if it is carried out under an authorization issued by a competent authority of a Member State if such authorization was obtained fraudulently or by corruption, extortion or coercion, or if such authorization is in manifest breach of relevant substantive legal requirements.
The Directive stipulates severe penalties, including maximum terms of imprisonment of not less than ten years for individuals and maximum fines for legal entities of not less than 5 % of the worldwide turnover or EUR 40 million.
Member States have jurisdiction if the damage is one of the constituent elements of the offense and occurs on their territory. In cases where the damage occurs in a Member State other than the Member State in which the act causing the damage occurred, this may lead to prosecution in more than one EU Member States and in return to a further enhancement of the cooperation between enforcement authorities in different states.
The Directive stipulates a variety of measures that Member States must take in order to either prevent or effectively prosecute offenses. These include, among others, the provision of dedicated investigative tools, awareness-raising campaigns and education programs, the provision of training, and the implementation of a national strategy on combating environmental criminal offenses.

A. Background

In its founding treaties, the EU has committed itself to ensuring a high level of protection of the environment.[7] To this end, in 2008, the EU adopted the Directive on the protection of the environment through criminal law, obligating Member States to criminalize certain environmentally harmful activities. A subsequent evaluation of the effectiveness of the Directive identified considerable enforcement gaps in all Member States. Further, it concluded that the number of cross-border investigations and convictions in the EU for environmental crime had not grown substantially as expected.[8] Since environmental crime is growing at annual rates of 5% to 7% globally[9], creating lasting damage for habitats, species, people’s health, and the revenues of governments and businesses, the European Commission concluded the current directive to be insufficient and proposed a new directive.

The Directive should be seen in the context of other recent EU regulations that have already been passed or are still in the legislative process, which aim at protecting the environment in the context of the EU’s transition to a climate-neutral and green economy (“Green Deal”[10]). For example, the Corporate Sustainability Reporting Directive (CSRD), which has come into force on January 5, 2023, requires certain companies to report on impacts as well as risk and opportunities related to sustainability matters.[11] On April 24, 2024, after lengthy negotiations and several postponements, the Corporate Sustainability Due Diligence Directive (CSDDD) which sets out due diligence obligations for companies regarding actual and potential adverse impacts on the environment and human rights in their value chains was finally passed by the Parliament.[12]

B. Environmental Crime Defined

The Directive provides for 20 basic criminal offenses addressing various ways of conduct.[13] Conduct in this respect relates, for example, to

the harmful discharge, emission or introduction of materials or substances, energy (such as heat, sources of energy and noise)[14] or ionising radiation into air, soil or water.[15]
the placing on the market of a product that is potentially harmful when used on a large scale, in breach of a prohibition or another requirement aimed at protecting the environment.[16]
the manufacturing, placing or making available on the market, export or use of certain harmful substances.[17]
the harmful collection, transport, recovery or disposal of waste, the supervision of such operations and the after-care of disposal sites, including action taken as a dealer or a broker.[18]
trade with timber in violation of the EU Regulation[19] on Deforestation-free products.[20]

Unlawful Conduct – Conduct in Breach of the Union’s Policy on the Environment

The offenses defined by the Directive require unlawful conduct, i.e. either (1) a breach of Union law contributing to the pursuit of at least one of the objectives of the Union’s policy on the environment or (2) a law, regulation or administrative provision of a Member State or a decision taken by a competent authority of a Member State that gives effect to such Union law.[21] Pursuant to Article 191 (1) of the Treaty on the Functioning of the European Union (“TFEU”), Union policy on the environment shall contribute to pursuit of the following objectives:

preserving, protecting and improving the quality of the environment,
protecting human health,
prudent and rational utilization of natural resources,
promoting measures at international level to deal with regional or worldwide environmental problems, and in particular combating climate change.

Importantly, the Directive makes clear that conduct shall be deemed unlawful even when it is carried out under an authorization if such authorization was obtained fraudulently or by corruption, extortion or coercion, or is in manifest breach of relevant substantive requirements.[22] The recitals suggest that ‘in manifest breach of relevant substantive legal requirements’ should be interpreted as referring to an obvious and substantial breach of relevant substantive legal requirements, and is not intended to include breaches of procedural requirements or minor elements of the authorization.[23]

Common constituent element

The majority of the offenses described by the Directive require that the conduct “causes or is likely to cause the death of, or serious injury to, any person or substantial damage to the quality of air, soil or water, or substantial damage to an ecosystem, animals or plants”[24]. While the Directive provides for elements that should be taken into account when assessing whether the damage to the quality of air, soil or water, or to an ecosystem or to animals or plants is “substantial”[25], the recitals stipulate that this qualitative threshold as well as the term “ecosystem” should be generally understood in a broad sense suggesting a possibly wide scope of application.[26]

“Qualified Offenses”

The Directive introduces “qualified offenses” with more severe penalties consisting of (a) the destruction of, or widespread and systematic damage, which is either irreversible or long-lasting to, an ecosystem of considerable size or environmental value or a habitat within a protected site, or (b) widespread and substantial damage which is either irreversible or long lasting to the quality of air, soil, or water”.[27] In its recitals, the EU describes such offenses as “comparable to Ecocide”.[28] The term “ecocide” was originally coined in the 1970s during the Vietnam war and was eventually recognized as a war crime under the Rome Statute[29].[30] The language of the Directive further resembles the definition of crimes against humanity.[31]

Intentional or Serious Negligence Required

As a general rule, the offenses set out by the Directive require that the conduct is intentional.[32] For 18 modalities, Member States must ensure that the respective conduct constitutes a criminal offense where that conduct is carried out with at least serious negligence.[33]

Complicity and Inchoate Offending

Pursuant to the Directive, Member States must ensure that inciting, and aiding and abetting the commission of an intentionally committed offense are punishable.[34] For 16 modalities of conduct, the Directive instructs that attempts be a crime.[35]

Penalties

Criminal penalties for individuals must be effective, proportionate and dissuasive.[36] The Directive stipulates that these must include maximum terms of imprisonment of at least ten, eight, five, or three years depending on the specific offense.[37] Accessory criminal or non-criminal penalties or measures may include the (a) obligation to restore the environment or pay compensation for the damage to the environment; (b) fines; (c) exclusion from access to public funding; (d) disqualification from holding, within a legal person, a leading position of the same type used for committing the offense; (e) withdrawal of permits and authorizations; (f) temporary bans on running for public office; (g) where there is a public interest, following a case-by-case assessment, publication of all or part of the judicial decision that relates to the criminal offense committed and the sanctions or measures imposed.[38]

C. Corporate Liability

The Directive not only addresses individual misconduct, but also criminal offending on behalf of legal persons. In this respect, Member States must ensure that legal persons can be held liable for offenses conducted by any person who has a leading position within the legal person concerned, either based on a power of representation, an authority to take decisions, or an authority to exercise control within the legal person.[39] Liability must also include the lack of supervision or control by a person who has a leading position when it has made possible the commission of an offense for the benefit of the legal person by a person under its authority.[40]

In terms of sanctions, Member States must ensure that liable legal person can be punished by effective, proportionate and dissuasive criminal or non-criminal[41] penalties or measures.[42] This is supposed to include fines which shall be proportionate to the seriousness of the conduct and to the “individual, financial and other circumstances of the legal person concerned”.[43] Member States are to ensure that the maximum level of fines is, depending on the specific type of offending, not less than

5 % of the worldwide turnover[44] or EUR 40 million;[45] or
3 % of the worldwide turnover or EUR 24 million.[46]

Beyond that, the Directive obliges Member States to take the necessary measures to ensure that legal persons held liable for “ecocide” are punishable by more severe penalties or measures.[47]

Further measures or sanctions with respect to legal persons may include (a) the obligation to restore the environment or pay compensation for the damage to the environment; (b) exclusion from entitlement to public benefits or aid; (c) exclusion from access to public funding, including tender procedures, grants, concessions and licenses; (d) temporary or permanent disqualification from the practice of business activities; (e) withdrawal of permits and authorizations to pursue activities that resulted in the relevant criminal offense; (f) placing under judicial supervision; (g) judicial winding-up; (h) closure of establishments used for committing the offense; (i) an obligation to establish due diligence schemes for enhancing compliance with environmental standards; and (j) where there is a public interest, publication of all or part of the judicial decision relating to the criminal offense committed and the penalties or measures imposed, without prejudice to rules on privacy and the protection of personal data.[48]

D. Jurisdiction

Member States have jurisdiction over an offense, (a) if the offense was committed either in part or in whole within its territory, (b) on board a ship or an aircraft registered in the Member State concerned or flying its flag, (c) the damage which is one of the constituent elements of the offense occurred on its territory or (d) the offender is one of its nationals.[49]

In particular the establishment of jurisdiction when the damage that is one of the constituent elements of the offense occurred on the territory of a EU Member State, may lead to a wide applicability of the Directive and may even lead to multiple prosecution and in return to a further enhancement of the cooperation between enforcement authorities in different states.[50] By way of example, if a national of a non-EU Member State disposed waste illegally in a river that runs through both a non-EU Member State and one or more EU Member States and the waste killed a substantial part of the fish population, the Member State’s jurisdiction could be triggered.

In addition, a Member State may exercise jurisdiction if (a) the offender is a habitual resident in its territory, (b) the offense is committed for the benefit of a legal person established in its territory, (c) the offense is committed against one of its nationals or its habitual residents or (d) the offense has created a severe risk for the environment on its territory.[51]

Where an offense falls in the jurisdiction of more than one Member State, those Member States are required to cooperate to determine which Member State shall conduct the criminal proceedings.[52]

E. Preventive and Other Measures

The Directive stipulates a variety of measures that Member States must take in order to either prevent or effectively prosecute offenses.

Freezing and Confiscation: Member States shall take the necessary measures to enable the tracing, identifying, freezing and confiscation of instrumentalities and proceeds from the criminal offenses.[53]
Investigative Tools: Member States shall take the necessary measures to ensure that effective and proportionate investigative tools are available for investigating or prosecuting offenses.[54]
Campaigns and Education Programs: Member States shall take appropriate measures, such as information and awareness-raising campaigns targeting relevant stakeholders from the public and private sector as well as research and education programs, which aim to reduce environmental criminal offenses and the risk of environmental crime.[55]
Sufficient Resources: Member States shall ensure that national authorities which detect, investigate, prosecute or adjudicate environmental criminal offenses have a sufficient number of qualified staff and sufficient financial, technical and technological resources for the effective performance of their functions related to the implementation of the Directive.[56]
Training: Member States shall take necessary measures to ensure that specialized regular training is provided to judges, prosecutors, police and judicial staff and to competent authorities’ staff involved in criminal proceedings and investigations with regard to the objectives of the Directive.[57]
Coordination and Cooperation: The Directive stipulates that Member States take the necessary measures to establish appropriate mechanisms for coordination and cooperation between competent authorities within a Member State and between Member States and the Commission, and Union bodies, offices or agencies.[58]
National Strategy: Member States shall establish, publish, implement and regularly[59] review a national strategy on combatting environmental criminal offenses.[60]
Data Collection and Statistics: Member States shall ensure that a system is in place for the recording, production and provision of anonymized statistical data in order to monitor the effectiveness of their measures to combat environmental criminal offenses.[61]

[1] See EU Official Journal April 30, 2024 and the legislative text.

[2] See Press Release of the Parliament (February 27, 2024).

[3] See Press Release of the Council (March 26, 2024).

[4] Pursuant to Article 29 the Directive will come into force on the twentieth day following that of its publication in the Official Journal of the European Union.

[5] Recitals 69, 70.

[6] Article 28 of the Directive.

[7] Art. 3 (3) of the Treaty on European Union and Art. 191 TFEU.

[8] See the European Commission’s Proposal for the Directive (COM (2021) 851 final), p. 1.

[9] See https://ec.europa.eu/commission/presscorner/detail/en/ip_23_5817.

[10] See Communication from the Commission on the European Green Deal, COM/2019/640 final.

[11] See European Union’s Corporate Sustainability Reporting Directive — What Non-EU Companies with Operations in the EU Need to Know and European Corporate Sustainability Reporting Directive (CSRD): Key Takeaways from Adoption of the European Sustainability Reporting Standards.

[12] See the Letter of the Chair of the JURI Committee of the European Parliament of March 15, 2024..

[13] Article 3(2) of the Directive.

[14] Recital 15.

[15] Article 3(2)(a) of the Directive.

[16] Article 3(2)(b) of the Directive.

[17] Article 3(2)(c) of the Directive.

[18] Article 3(2)(f) of the Directive.

[19] Regulation (EU) 2023/1115.

[20] Article 3(2)(p) of the Directive.

[21] Article 3(1) of the Directive.

[22] Article 3(1) of the Directive.

[23] Recital 10.

[24] See e.g. Article 3(2)(a) of the Directive.

[25] Article 3(6) of the Directive.

[26] Recital 13.

[27] Article 3(3) of the Directive.

[28] Recital 21.

[29] Rome Statute, article 8(2)(b)(iv);

[30] European Law Institute – Ecocide.

[31] Rome Statute, article 7(1).

[32] Article 3(2) of the Directive.

[33] Article 3(4) of the Directive.

[34] Article 4(1) of the Directive.

[35] Article 4(2) of the Directive.

[36] Article 5(1) of the Directive.

[37] Article 5(2) of the Directive.

[38] Article 5(3) of the Directive.

[39] Article 6(1) of the Directive.

[40] Article 6(2) of the Directive.

[41] Depending on whether the Member States’ national law provides for the criminal liability of legal persons; see recital 33.

[42] Article 7(1) of the Directive.

[43] Article 7(2), (3) of the Directive.

[44] Either in the business year preceding that in which the offense was committed, or in the business year preceding that of the decision to impose the fine.

[45] Article 7(3)(a) of the Directive.

[46] Article 7(3)(b) of the Directive.

[47] Article 7(4) of the Directive.

[48] Article 7(2) of the Directive.

[49] Article 12(1) of the Directive.

[50] Regarding the application of the double jeopardy-/ne bis in idem-principle between multiple jurisdictions, see also Extraterritorial Impact of New UK Corporate Criminal Liability Laws.

[51] Article 12(2) of the Directive.

[52] Article 12(2) of the Directive.

[53] Article 10 of the Directive.

[54] Article 13 of the Directive.

[55] Article 16 of the Directive.

[56] Article 17 of the Directive.

[57] Article 18 of the Directive.

[58] Articles 19, 20 of the Directive.

[59] The intervals should be no longer than 5 years.

[60] Article 21 of the Directive.

[61] Article 22 of the Directive.

The following Gibson Dunn lawyers prepared this client alert: Benno Schwarz, Katharina Humphrey, Andreas Dürr, and Julian Reichert.

Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding these developments. If you wish to discuss any of the matters set out above, please contact the Gibson Dunn lawyer with whom you usually work, any member of Gibson Dunn’s White Collar Defense and Investigations practice group, or the following authors in Munich.

Benno Schwarz (+49 89 189 33-110, bschwarz@gibsondunn.com)
Katharina Humphrey (+49 89 189 33-155, khumphrey@gibsondunn.com)
Andreas Dürr (+49 89 189 33-219, aduerr@gibsondunn.com)
Julian Reichert (+49 89 189 33-229, jreichert@gibsondunn.com)

The Asia-Pacific countries are experiencing exponential growth in renewables projects, as they seek to transition away from power generated through fossil fuels. Disputes inevitably arise as stakeholders navigate complex challenges in the rapidly evolving field, and a number of trends have emerged insofar as these disputes are concerned.

In the next 10 years, some $3.3 trillion of investments into power generation across the Asia-Pacific region is expected; half in renewables. Indeed, more than half of the world’s power will be generated in the Asia-Pacific, of which almost half is expected to be from renewable sources. While these ambitious projects present enormous opportunities for stakeholders, there are also significant commercial risks and challenges that have in turn led to an increase in disputes. This update highlights some of the key risks for parties to consider in allocating risks, and proposes steps to better prepare for any disputes.

The Asia-Pacific countries are experiencing exponential growth in renewables projects, as they seek to transition away from power generated through fossil fuels. Notably, Japan and South Korea have pledged to achieve net zero by 2050. Recently, China for the first time made clear policy statements on carbon neutrality, declaring its goal to achieve carbon neutrality by 2060. At the same time, many Asia-Pacific countries have experienced an unprecedented surge in energy demand. These factors have accelerated the growth in the renewables sphere. Disputes inevitably arise as stakeholders navigate complex challenges in the rapidly evolving field. A number of trends have emerged insofar as these disputes are concerned.

Disputes caused by the rapid evolution of underlying technologies

First, a significant number of disputes relate to defective or ineffective technology. This is due to a number of reasons, including:

Reliance on novel technologies that are rapidly evolving. In many projects, the technology being implemented is still in infancy. It is not uncommon for these technologies to falter or fail to perform to the expectations of various stakeholders.
Inexperienced labor may contribute to inability to properly develop projects utilizing novel technologies.
The lack of established industry standards such that parties are unable to accurately gauge how the project will operate upon completion.

Disputes may then crystallize, involving claims of misrepresentation or breach of contract. Ascertaining the party at fault (designers, suppliers and contractors) and to what extent require extensive scientific and engineering expertise, oftentimes in areas where research is limited.

A further issue that the technology gives rise to is that the technology employed at the start of the project may quickly (and unexpectedly) become outdated by completion, leading to buyer’s remorse.

Complex interplay of project and finance structures

Renewables projects typically require significant investment. Whether the financing is by debt or equity, a couple of issues tend to arise:

The project assets and revenue streams are typically used as collateral. This requires energy generation within an economically viable time period. Therefore, any delays in achieving the generation required (often the case) have knock-on effects on the financing arrangement.
Moreover, the capital-intensive nature of such projects often means having to pool investment from multiple investors, potentially giving rise to divergent interests.

In addition to complex finance structures, stakeholders must also navigate a web of relationships with an array of third-party contractors and suppliers, governed by a multitude of contracts including engineering, procurement and construction contracts, service agreements, and operation and maintenance agreements.

Increased vulnerability to climate change

The operational efficacy of the technologies utilized in renewables projects may be substantially impacted by the adverse effects of climate change. Solar panels (ironically) experience diminished functionality and output amid warmer temperatures and wind turbines may shut down in response to excessively high wind speeds. Decreased precipitation and increasing evaporation rates caused by rising temperatures also pose significant challenges to hydropower generation. Even mild weather fluctuations – such as a drop in wind speed or increases in cloud cover – can significantly affect the power output of renewable sources.

Asia, the continent with the greatest land mass extending to the Artic, is warming significantly quicker than the global average. Extreme weather and climate change impacts are also increasing in Asia, with the continent having experienced numerous severe droughts and floods in recent years. For example, the Lower Sesan 2 Dam in Cambodia, which became operational in 2018, has struggled to reach full generation capacity due to prolonged droughts.

Stakeholders must thus proactively assess climate-related risks and cater for the allocation of such risks in the project documents.

Heightened regulatory risks

The renewables sector is exposed not only to commercial or counterparty risks faced by conventional construction and energy projects, but also distinctly greater regulatory risk. In particular, renewable energy projects are typically located in remote areas over large areas of land, making environmental and land use permits more difficult to obtain compared to other construction projects. In an age of environmental consciousness, approval processes for renewables projects are often subject to considerable public and political scrutiny, sometimes even after the project has been approved.

Delays in obtaining licenses will likely lead to disputes when deadlines and milestones set out in the project documents are not satisfied; or worse, a refusal to license or a revocation of a license could jeopardise the project entirely.

Supply chain issues

In an increasingly fractious world, and a ‘war’ on technological advancement being waged openly by major powers, there is every risk that technology or components or material needed from one country could, at moment’s notice, become the subject of export control, disrupting supply chains and the completion of a project.

Proactive engagement and careful allocation of risks

The risks associated with renewables projects require careful attention to a number of substantive and procedural issues.

First, and most obviously, risk allocation. Among others, a few key points should be considered.

Possibly the most challenging aspect of renewables projects are the disputes that arise from the implementation of the technology, the degradation of the technology, and how the efficacy of the technology could be affected by the environment. These issues are unlike typical construction disputes because the causes and effects of any damage done to the project are not necessarily linear or not easily assignable to any particular party. Careful thought as to who should bear the risk of such damage is advisable.
The need for express stipulation may depend on the governing law chosen. Particularly when it comes to the ability of a party to rely on external circumstances to discharge one’s liability, different laws are stricter than others. The English (and Singapore) common law for instance requires the external event to be both unforeseeable and to affect the root of the contract. Any circumstances short of this high threshold will therefore require contractual stipulation.
Parties should also stipulate the extent of compensation or damages that they could be liable for in the event of default. Again, different laws may impose limitations: for example, on the extent of liquidated damages or exclusions of liability.
Where relevant, exit options should also be negotiated and stipulated. Any compensation for the exercise of options should also comply with any relevant laws. For example, there was a period when options governed by Indian law were being challenged until the Supreme Court resolved the uncertainty.

Second, the risk of government interference or action adversely affecting the project makes it advisable for investors to structure their investment so that they are able to avail themselves of investment treaty protection should it become necessary. If the project involves the government as a counterparty, stabilization clauses and other guarantees should be considered as well.

Third, disputes may involve multiple parties and contracts. While most major institutional rules today allow for consolidation or joinder, their permissiveness and the timing of when the necessary applications should be made vary slightly. Moreover, thought should be given to whether to include advance consent to consolidation, joinder and claims under multiple contracts in order to avoid prolonged jurisdictional and admissibility fights when the dispute arises.

Last but not least, we have consistently found that parties who pro-actively manage their projects by consulting with their legal advisers and experts throughout the life-cycle of the project tend to be better prepared when a dispute arises.

The following Gibson Dunn lawyers prepared this update: Paul Tan, Jonathan Lai, and Viraen Vaswani.

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, any leader or member of the firm’s International Arbitration practice group, or the authors:

Paul Tan – Singapore (+65 6507 3677, ptan@gibsondunn.com)
Jonathan T.R. Lai – Singapore (+65 6507 3678, jlai@gibsondunn.com)
Viraen Vaswani – Singapore (+65.6507.3690, vvaswani@gibsondunn.com)

The government successfully argued that trading in the securities of one company based upon material nonpublic information about a separate company (in whose securities the defendant does not trade) can nevertheless violate the federal securities laws.

On April 5, 2024, a civil jury found a former biopharmaceutical executive liable for insider trading under a novel theory with potentially far-reaching implications for the government’s enforcement of Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5 thereunder, as well as potential criminal insider trading prosecutions. In a first-of-its-kind trial, in SEC v. Panuwat, the government successfully argued that trading in the securities of one company based upon material nonpublic information about a separate company (in whose securities the defendant does not trade) can nevertheless violate the federal securities laws. This is called “shadow trading.” Although the SEC has been at pains to claim that there is “nothing novel” about the “pure and simple” insider trading theory it advanced in Panuwat,[1] the ruling heralds a significant new application of the federal government’s insider trading authority to prevent such “shadow trading” in which corporate insiders allegedly exploit information about their own companies to profit by trading in the securities of “economically-linked firms.”[2]

Factual Background

Matthew Panuwat served as Senior Director of Business Development at Medivation Inc., a publicly traded biopharmaceutical company specializing in oncology drugs. At the outset of his employment, Mr. Panuwat signed the company’s insider trading policy. That policy provided that he would not “gain personal benefit” by using Medivation’s information to “profit financially by buying or selling” either Medivation’s securities “or the securities of another publicly traded company.”[3] Not all public companies prohibit their personnel (including members of the Board of Directors) from trading in the securities of other public companies or competitors. Medivation did.

As alleged by the government, on August 18, 2016, Mr. Panuwat and other senior employees received an email from David Hung, Medivation’s chief executive officer, suggesting that a deal was imminent in which Medivation would be purchased by Pfizer. Although market participants already knew that Medivation had been fielding offers for several months, the SEC alleged that Hung’s email contained several pieces of non-public information. Mr. Panuwat, who had been part of the Medivation deal team, knew that the bids from potential acquirers including Pfizer represented a substantial premium over the then-existing market price for Medivation shares. Seven minutes after receiving Mr. Hung’s email, Mr. Panuwat began purchasing call options for Incyte Corporation, one of a handful of similar publicly traded biopharmaceutical companies focused on late-stage oncology treatments. When Pfizer’s acquisition of Medivation was publicly announced a few days later, Incyte’s stock increased 7.7% and Mr. Panuwat made approximately $110,000 from his call options.

On August 17, 2021, the SEC brought an action against Mr. Panuwat for insider trading under Section 10(b) of the Exchange Act, alleging a single violation of Rule 10b-5.

The District Court Denied Mr. Panuwat’s Motion to Dismiss

Mr. Panuwat moved to dismiss the SEC’s complaint on multiple grounds, including that the SEC’s unprecedented “shadow trading” theory sought to hold him liable for trading in Incyte’s securities as a result of his knowledge of the Pfizer-Medivation acquisition violated his constitutional right to Due Process. Mr. Panuwat argued that such a theory had never before been advanced in litigation. According to this line of argument, market participants had not previously understood that “confidential information regarding an acquisition involving Company A should also be considered material to Company B (and presumably companies C, D, E, etc.) that operate within the same general industry.”[4] Although the Court agreed that there “appear to be no other cases” supporting that proposition, and the SEC “conceded this at oral argument,” the Court nevertheless rejected this Due Process argument. The Court held that the SEC’s theory fell “within the general framework of insider trading, and the expansive language” of federal securities laws.[5]

The lengthiest portion of the Court’s decision, as well as the parties’ briefing, concerned whether information regarding the Pfizer-Medivation acquisition was material to Incyte. Mr. Panuwat argued that the information he received was not “about” Incyte, a non-party to the imminent transaction.[6] But the Court concluded that “given the limited number of mid-cap, oncology-focused biopharmaceutical companies with commercial-stage drugs in 2016, the acquisition of one such company (Medivation) would make the others (i.e., Incyte) more attractive, which could then drive up their stock price.” The Court stated that it was “reasonable to infer” that other companies that had unsuccessfully attempted to acquire Medivation “would turn their attention to Incyte” after losing out to Pfizer.[7] And, more broadly, in dicta the Court endorsed the SEC’s “common-sense” argument that “information regarding business decisions by a supplier, a purchaser, or a peer can have an impact on a company” and therefore be material—a potentially far-reaching endorsement of the SEC’s novel “shadow trading” theory.[8]

In addition, the parties agreed that Mr. Panuwat owed a duty to Medivation in light of his role as a senior executive of the company. That supported the SEC’s theory that he could be liable for misappropriating Medivation’s material non-public information concerning its impending acquisition. Although Mr. Panuwat argued that trading Incyte securities did not violate his duties to Medivation, the Court disagreed. At the pleading stage, the Court relied on “the plain language” of Medivation’s insider trading policy prohibiting trading “‘the securities of another publicly traded company, including . . . competitors” of Medivation, which could be read to include Incyte.[9] The Court further found that scienter could be reasonably inferred given that Mr. Punawat allegedly traded the Incyte call options “within minutes” of receiving Mr. Hung’s email but had “never traded Incyte stock before.”[10]

A Jury Agrees Mr. Panuwat’s Trading Falls Within the SEC’s “Shadow Trading” Theory

In November 2023, the Court denied Mr. Panuwat’s motion for summary judgment. The Court found that a key question for the jury was whether the SEC could prove “a connection between Medivation and Incyte” such that “a reasonable investor would view the information in the Hung Email as altering the ‘total mix’ of information available about Incyte.”[11] In particular, the Court recognized at least three ways in which the SEC might be able to prevail on this question of fact. First, it recognized that the SEC had introduced several “analyst reports and financial news articles” that “repeatedly linked Medivation’s acquisition to Incyte’s future.”[12] Mr. Panuwat tried to sever this link by arguing that Medivation and Incyte did not consider themselves competitors because they offered somewhat different products. The Court, however, rejected this argument because “no legal authority suggest[ed] that a reasonable investor would conclude that Medivation’s acquisition would only affect the stock price of companies that directly competed” with it.[13] Second, the SEC introduced evidence that “Medivation’s investment bankers considered Incyte a ‘comparable peer’” for valuation purposes because both were mid-cap biopharmaceutical companies with cancer-related drugs.[14] Third, the Court found that Incyte’s stock price increased by 7.7% after announcement of the Pfizer-Medivation acquisition, which the Court inferred was itself “strong evidence” investors understood “the significance of that information” as being material to Incyte.[15]

SEC v. Panuwat proceeded to an eight-day jury trial that began on March 25, 2024. After only about two hours of deliberation, on April 5, the jury returned a verdict finding that Mr. Panuwat’s purchase of Incyte call options constituted insider trading in violation of Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5 promulgated thereunder. That same day the SEC issued a press release noting that the brevity of the jury’s deliberations supported the SEC’s position since the outset of the litigation, quoting Division of Enforcement Director Gurbir S. Grewal as saying that, “As we’ve said all along, there was nothing novel about this matter, and the jury agreed: this was insider trading, pure and simple” because Mr. Panuwat “used highly confidential information about an impending announcement” of Medivation’s acquisition “to trade ahead of the news for his own enrichment” by using “his employer’s confidential information to acquire a large stake in call options” of Incyte, which “increased materially on the important news.”[16]

Depending on the Appellate Court, “Shadow Trading” Liability May Be Here to Stay

Pending the results of the anticipated appeal, the successful prosecution of Mr. Panuwat has armed the federal government with a powerful new precedent. Academic studies have claimed to find “robust evidence” that “shadow trading” is a frequent real-world phenomena in which “employees circumvent insider trading regulations” by “trading in their firm’s business partners and competitors” rather than trading in their own employers’ securities.[17] The district court’s detailed rulings in SEC v. Panuwat provide a clear blueprint for the government’s approach moving forward. Further, the jury’s findings against Mr. Panuwat after deliberating for only a few hours provides anecdotal evidence that litigating “shadow trading” cases is a viable option for government regulators and prosecutors.

Depending on whether Mr. Panuwat appeals the decision (as expected), legal and compliance professionals would be well-advised to continue to keep “shadow trading” issues in mind when designing, revising and implementing their firms’ trading policies and training programs. Indeed, anyone who trades in securities while in possession of material non-public information—including corporate insiders and directors, bankers, accountants, and lawyers, among others—could find themselves within the zone of a “shadow trading” theory. In addition, commencing with annual reports on Forms 10-K for fiscal years beginning on or after April 1, 2023, public companies will need to file as an exhibit to their Form 10-Ks any “insider trading policies and procedures governing the purchase, sale, and/or other dispositions of the registrant’s securities” that “are reasonably designed to promote compliance with insider trading laws, rules and regulations.”[18] While this requirement does not literally apply to policies addressing the trading of other companies’ securities, some companies have policies (as with Medivation) that address such trading.[19] Companies should carefully consider all factors in deciding whether to prohibit trading in other securities, and conduct training of insiders and board members as to the SEC’s expansive views on the scope of the law against insider trading.

Moreover, the securities laws impose obligations on SEC-registered firms, namely investment advisers and broker-dealers, to adopt and implement policies and procedures reasonably designed to prevent the misuse of material nonpublic information. Such firms can often be confronted with questions as to the scope of a restriction imposed by the receipt of material nonpublic information subject to a duty of confidentiality, while simultaneously fulfilling fiduciary duties to manage assets in the interests of clients. Such questions can arise at the inception of a trading restriction as well as at later points during the period of restriction. Judgments about the materiality of information about one company to the price of securities of another company are particularly nuanced and complicated. For example, it can be difficult to determine whether favorable news about one company will have a positive or negative impact on a competitor. Hanging over all of this is the ever-present risk that the SEC views the facts with the benefit of hindsight. Legal and compliance functions at investment advisers and broker-dealers may wish to revisit their policies and procedures in light of the shadow trading risk, as well as train their investment professionals to be sensitized to the risks the case highlights.

As always, Gibson Dunn remains available to help its clients in addressing these issues.

[1] SEC, Statement on Jury’s Verdict in Trial of Matthew Panuwat, Apr. 5, 2024 https://www.sec.gov/news/statement/grewal-statement-040524.

[2] Mihir Mehta, David Reeb, & Wanli Zhao, Shadow Trading 1, Accounting Review (July 2021), available at https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3689154.

[3] Complaint ¶ 20, SEC v. Panuwat, No. 21-cv-06322 (N.D. Cal. Aug. 17, 2021)

[4] SEC v. Panuwat, 2022 WL 633306, at *8 (N.D. Cal. Jan. 14, 2022).

[5] Id.

[6] Id. at *4.

[7] Id. at *5.

[8] Id. at *4.

[9] Id. at *6.

[10] Id. at *7.

[11] SEC v. Panuwat, 2023 WL 9375861, at *5 (N.D. Cal. Nov. 20, 2023).

[12] Id. at *6.

[13] Id.

[14] Id.

[15] Id.

[16] SEC, Statement on Jury’s Verdict in Trial of Matthew Panuwat, Apr. 5, 2024 https://www.sec.gov/news/statement/grewal-statement-040524.

[17] Mihir Mehta, David Reeb, & Wanli Zhao, Shadow Trading 1, 4, Accounting Review (July 2021), available at https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3689154.

[18] Item 408(b) of Regulation S-K (emphasis added). Smaller reporting companies have to comply with the requirements beginning with their Form 10-K for fiscal years beginning on or after October 1, 2023.

[19] Under Section 21A(b)(1) of the Exchange Act, public companies are not subject to controlling person liability for insider trading by executives, directors, or employees unless they disregarded the fact that a controlled person was likely to engage in the act or acts constituting the violation and failed to take appropriate steps to prevent such act or acts before they occurred.

The following Gibson Dunn lawyers assisted in preparing this update: Reed Brodsky, Benjamin Wagner, Mark Schonfeld, David Woodcock, Ronald Mueller, Lori Zyskowski, Thomas Kim, Julia Lapitskaya, Michael Nadler, Edmund Bannister, and Peter Jacobs*.

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, the authors, or any leader or member of the firm’s Securities Enforcement or Securities Regulation and Corporate Governance practice groups:

Securities Enforcement:
Reed Brodsky – New York (+1 212.351.5334, rbrodsky@gibsondunn.com)
Mark K. Schonfeld – New York (+1 212.351.2433, mschonfeld@gibsondunn.com)
Benjamin Wagner – Palo Alto (+1 650.849.5395, bwagner@gibsondunn.com)
David Woodcock – Dallas/Washington, D.C. (+1 214.698.3211, dwoodcock@gibsondunn.com)
Michael Nadler – New York (+1 212.351.2306, mnadler@gibsondunn.com)

Securities Regulation and Corporate Governance:
Elizabeth Ising – Washington, D.C. (+1 202.955.8287, eising@gibsondunn.com)
Thomas J. Kim – Washington, D.C. (+1 202.887.3550, tkim@gibsondunn.com)
Julia Lapitskaya – New York (+1 212.351.2354, jlapitskaya@gibsondunn.com)
James J. Moloney – Orange County (+1 1149.451.4343, jmoloney@gibsondunn.com)
Ronald O. Mueller – Washington, D.C. (+1 202.955.8671, rmueller@gibsondunn.com)
Lori Zyskowski – New York (+1 212.351.2309, lzyskowski@gibsondunn.com)

*Peter Jacobs is an associate working in the firm’s New York office who is not yet admitted to practice law.

Tax Equity Now NY LLC v. City of New York, 2024 N.Y. Slip Op. 01498, Issued March 19, 2024

The sharply divided decision could upend the City’s historical treatment of residential properties and could have broad implications for civil litigation in New York.

On March 19, 2024, the New York Court of Appeals issued an important decision reviving in part a sweeping challenge to New York City’s property tax system. The plaintiff in the case, Tax Equity Now NY LLC v. City of New York, alleges that the City “imposes substantially unequal tax bills on similarly-valued properties” that bear “little relationship” to fair market value, leading to “staggering inequities,” including along racial lines.[1]

The Court’s holding leaves in place much of the existing tax framework, notably relating to state-law caps on annual tax increases and taxes on commercial properties, but the sharply divided decision reinstates certain claims against the City and could upend the City’s historical treatment of residential properties. The decision also could have broad implications for civil litigation in New York, especially relating to New York’s liberal pleading standards and claims brought under the federal Fair Housing Act.

Background

New York City’s property tax system has a storied history. Article 18 of New York’s Real Property Tax Law (“RPTL”) was enacted in 1981, over widespread criticism and a Governor’s veto, to stave off an impending crisis. For hundreds of years, tax rates were applied to only a percentage of a property’s market value, with localities assessing commercial and industrial property at higher ratios than residential property.[2] In 1975, the Court of Appeals held that state law precluded these “fractional assessments” and required tax rates to be applied to full market value.[3] That decision “reverberated throughout the state” by threatening an “unwelcome shift of a significant portion of the property tax burden from businesses to homeowners.”[4] The Legislature therefore enacted the current statute, which allows for all real property in the City to be assessed using fractional assessments at a uniform percentage of value. See RPTL §§ 305, 1801 et seq.

Article 18 establishes four different classes of real property in New York City. “Class One” contains primarily one-, two-, and three-family residential property. “Class Two” contains all other residential property, including condos, co-ops, and large rental buildings. “Class Three” contains “utility real property.” “Class Four” contains all other real property.[5]

In order to avoid abrupt changes in tax liability, Article 18 provides a formula for determining the portion of annual taxes that each of these classes will bear, with state law capping the amount by which each share can increase every year. The statute further establishes caps on year-to-year increases for individual parcels within each class. For example, assessment increases for Class One properties cannot exceed 6% annually and 20% over any five-year period.[6]

Within this framework, the City undertakes the assessment and collection of real property taxes. First, the City determines each parcel’s taxable value by estimating its market value and multiplying it by the fractional assessment rate the City has set for that parcel’s class. The City has elected to assess Class One properties at 6% of their market value, and to assess all other classes at 45% of their market value.[7] The City then multiplies that market value by the tax rate for the class, which is the rate required to satisfy each class’s share. The City then further makes adjustments for various abatements and exemptions.[8]

The Court of Appeals Ruling

In Tax Equity Now NY LLC v. City of New York, a membership organization committed to pursuing legal and political reform, but “frustrated with the political process,”[9] brought suit against the City and State contending that New York City’s property tax system is inequitable, unlawful, and unconstitutional.[10] Broadly speaking, the plaintiff (“TENNY”) alleges that property taxes are not uniform and not based on fair-market value, and that the City’s tax system has a discriminatory disparate impact on racial minorities, in violation of state and federal law.[11]

The New York State Appellate Division dismissed TENNY’s claims,[12] but the Court of Appeals reversed that ruling in part. The Court held that TENNY’s constitutional claims were “foreclosed by the deferential standard applied to taxation legislation and policy,” as the tax system currently in place serves the rational purpose of maintaining stability over time.[13] Moreover, the Court “easily dispose[d]” of TENNY’s claims against the State of New York, explaining that “the gravamen of the complaint is a challenge to the City’s real property tax scheme and, by so focusing, fails to separately explain why the State is liable for the City’s methodological choices.”[14]

Nevertheless, the Court concluded that the complaint has sufficiently pleaded various causes of action against the City for statutory violations of the RPTL and the federal Fair Housing Act in the context of residential properties. Applying New York’s “liberal pleading standard,” the Court held that TENNY’s complaint sufficiently alleges causes of action “on the general basis that the system is unfair, inequitable, and has a discriminatory impact” on certain property owners.[15]

Lack of Uniformity in Tax Assessments

First, the Court held that TENNY has adequately pleaded a violation of RPTL § 305, which provides that “[a]ll real property in each assessing unit shall be assessed at a uniform percentage of value (fractional assessment),” based on disparate assessment and taxation of properties within Classes One and Two as compared to “fair market value.”[16]

With respect to Class One property (e.g., one-, two-, and three-family residences), TENNY alleged with data “generated by the City’s Independent Budget Office,” City-official admissions, and charts depicting geographic disparities that the City assesses taxes in a manner that sometimes requires application of the state-law caps on annual increases, resulting in disparate tax burdens for properties depending on the rate at which their value appreciates, both from borough to borough and within boroughs. Thus, “older properties in faster-appreciating neighborhoods are assessed and taxed at a lower effective rate than other properties of identical market value.”[17]

The Court rejected the argument that the law requires the City only to assess properties uniformly, without regard for the amount of taxes ultimately paid due to “factors outside of the City’s control, such as the application of state legislatively mandated caps and exemptions.”[18] Construing the statute as a “whole,” the Court held that state law “directs the City to ensure that its assessment is based on the property’s fair market value” uniformly within each class, while taking into account the state-law caps on increases. According to the Court, the City could do so by lowering assessment ratios so that assessments in rapidly appreciating areas do not implicate the caps while making up any shortfall by raising tax rates uniformly across the class.[19]

The Court similarly held that TENNY has adequately alleged, with the support of “publicly-available records,” external reports, and City-official admissions, that the City’s real property tax system violates RPTL § 305 with respect to its treatment of Class Two condos and co-ops.[20] As the Court explained, the City assesses condos and co-ops that were constructed before 1974 (a category that includes 98% of all City co-ops) by comparing them to rental properties that were built before 1974 and therefore rent-stabilized, even though condos and co-ops do not qualify for rent stabilization “and are, in fact, sold (and rented) at much higher market values.”[21] According to the complaint, this causes large disparities in taxes applicable to condos and co-ops depending on whether they were built before or after 1973. The Court rejected the argument that these disparities result from RPTL § 581, which requires assessment of condos and co-ops as if they were rental properties, yet does not require the City to “assess a luxury condominium or cooperative as if it were a regulated apartment where the properties differ in meaningful ways.”[22]

Three judges dissented from the Court’s holding. Judges Garcia, Singas, and Cannataro argued that the law’s requirement that property be “assessed at a uniform percentage of value (fractional assessment)” required the City to do just that: apply a uniform assessment rates, and nothing more, because the statute was never intended to address perceived inequities in the tax system, which serves “rational legislative objectives.”[23] They noted that the Legislature enacted statutory caps despite widespread criticism that the system was “at best ineffective and at worst unfair,” and warned that the “policy considerations underlying the caps are now written out of New York law,” which was a task best left for the Legislature.[24] As for Class Two properties, they similarly reasoned that the Court was seeking to “eliminate perceived disparities by ‘interpreting’ [state law] to accomplish exactly what those who opposed the legislation’s passage warned it did not do.”[25] Ultimately, the dissenting judges believed the Court had erroneously read the tax laws “as requiring the city to provide equal tax treatment for all properties of equal market value,” when the proper method of obtaining such treatment would be through the political process.[26]

Discriminatory Impact on Racial Minorities

The Court also held that TENNY had sufficiently pled several causes of action under the federal Fair Housing Act, which prohibits discrimination in housing.[27]

According to the Court, TENNY had sufficiently alleged that the City “disproportionately burden[s] racial minorities” in Class One properties because owners in majority-minority districts allegedly pay higher tax rates than those in majority-white districts, and higher taxes allegedly “inhibit mobility and place a disproportionate burden on the purchase, ownership and renting of Class One properties.”[28] The Court emphasized that it must “accept[] these allegations as true” and repeatedly noted that the complaint includes “hard data” and “examples,” such as that properties in majority-minority neighborhoods are over-assessed by $1.9 billion and over-taxed by $376 million, making it more difficult for minorities to buy, own, and rent homes.[29]

In addition to Class One properties, the Court held that the complaint adequately alleges discrimination in the treatment of Class Two properties because the City favors owners of Class Two condos and co-ops (who are disproportionately white) over owners of Class Two rental buildings, who in turn pass higher taxes on to renters (who are disproportionately not white), which in turn disproportionately affects the search for affordable housing in New York City.[30

Finally, the Court held that the complaint adequately alleges that the City perpetuates segregation, on the grounds that “blacks and whites are [allegedly] the most isolated from other races” in certain neighborhoods, and that disproportionate tax burdens “suppress minority mobility into wealthier, whiter neighborhoods.”[31] The Court emphasized that it was applying New York’s “liberal pleading standards,” which do not require “allegations defeating every alternative explanation.”[32] Thus, while the Court noted that individuals may “choose to live in a different neighborhood or move into or out of a community for reasons unrelated to—or despite—high taxes,” which the Court recognized “may present obstacles for TENNY[] . . . as this case progresses,” the Court reiterated that “at the pleading stage, we do not consider whether TENNY will eventually establish its cause of action, only whether it has alleged facts that support a legally viable claim.”[33]

Critically, the Court held that the Appellate Division wrongly applied a limiting principle for claims arising under the Fair Housing Act— the “robust causality” requirement previously recognized by the United States Supreme Court in Inclusive Communities Project, Inc. v. Texas Dep’t of Hous. and Community Affairs, in which the Supreme Court explained that “a disparate impact claim that relies on a statistical disparity” must fail unless the disparity is actually caused by the defendant’s policy. 576 U.S. 519, 542 (2015).[34] In the Court’s view, that analysis applies only to an “evidentiary record generated during discovery,” not to a motion to dismiss, where—under New York’s liberal pleading standard—”plaintiff’s factual assertions are accepted as true and we need only determine whether the facts fit any cognizable legal theory.”[35]

Judges Garcia and Singas dissented, arguing that the complaint must allege a “robust” causal connection between the alleged impact and challenged policies because “failings at the pleading stage lead inexorably to a failing at later procedural stages.”[36] Applying a “robust” causation requirement, Judges Garcia and Singas would have held that TENNY failed to allege that the City “caused” housing disparities because TENNY did not allege sufficient concrete facts or statistical evidence showing that the property tax system, “as opposed to other factors,” inhibits the ability of minority residents to relocate or own homes, adding that the “mere identification of higher tax rates in particular neighborhoods does not state a claim” under the FHA.[37]

What It Means

The Court’s ruling could have significant implications for New York City’s property tax system. Although it leaves in place much of the State’s overall tax framework, TENNY will now have the opportunity to substantiate its claims through litigation and pursue systemic reform against the City. As the dissent noted, this decision may result in the removal of important policy issues from the democratic process, where they had previously been hotly contested in Albany. “Instead of all interested stakeholders participating through their elected representatives in an effort to balance competing interests, [the Court’s] new rule virtually guarantees that,” if TENNY succeeds, “the parties here will craft new tax policy in a settlement conference room.”[38]

The Court’s decision also could have broad implications for civil litigation in New York, especially relating to impact claims in other cases. Here, the plaintiff successfully navigated threshold pleading challenges, such as standing, where other plaintiffs bringing similar claims have failed,[39] and convinced a slim majority on the Court that the complaint adequately alleged causes of action for broad, systemic claims of illegality in the City’s property tax system. Interested parties may therefore view the case as a roadmap for seeking reform through similar claims in the future.

It is important to note that the Court’s decision could have apparent limitations as well. As in other recent cases,[40] the Court repeatedly stressed that this ruling was based, in significant part, on the “liberal pleading standards” that apply at the outset of a case in New York state court, and it acknowledged that Fair Housing claims must satisfy a more robust causation requirement following development of an evidentiary record, which will likely prove complex. Moreover, the Court repeatedly emphasized that the complaint’s allegations were “supported with independent studies and the City’s own data of widening disparities,” resulting from its “annually-repeated assessment methodology”—unique factors that may not exist in other cases.[41]

[1] Tax Equity Now NY LLC v. City of N.Y. (“TENNY”), 2024 WL 1160498, at *1 (N.Y. Ct. App. Mar. 19, 2024).

[2] See Matter of O’Shea v. Board of Assessors of Nassau County, 8 N.Y.3d 249, 253 (2007); Matter of Hellerstein v. Assessor of Town of Islip, 37 N.Y.2d 1, 13 (1975).

[3] See Matter of Hellerstein, 37 N.Y.2d at 14.

[4] See Matter of O’Shea, 8 N.Y.3d at 253.

[5] See RPTL § 1802(1).

[6] See RPTL § 1805.

[7] Thus, for example, a Class One property with a $100,000 market value would have a $6,000 taxable value, and a Class Two property would have a $45,000 taxable value.

[8] See TENNY, 2024 WL 1160498, at *2.

[9] 2024 WL 1160498, at *9 (Garcia, J., dissenting in part).

[10] 2024 WL 1160498, at *3.

[11] Id.

[12] Mr. Rokosky was counsel for the State in the Appellate Division prior to joining Gibson Dunn, but he played no role in the Court of Appeals.

[13] TENNY, 2024 WL 1160498, at *12-13.

[14] Id. at *14 (emphasis added).

[15] See id. at *1.

[16] Id. at *4-9.

[17] Id. at *4-5.

[18] Id. at *6.

[19] See id. at *6-8.

[20] See id. at *8-9.

[21] Id. at *5.

[22] Id. at *9.

[23] Id. at *15-19 (Garcia, J., dissenting in part).

[24] Id. at *18.

[25] Id.

[26] Id. at *15.

[27] See id. at *9-12.

[28] Id. at *9.

[29] Id. at *9-10.

[30] Id. at *9.

[31] Id. at *11-12.

[32] Id. at *12.

[33] Id.

[34] Id. at *11.

[35] Id.

[36] Id. at *20 (Garcia, J., dissenting).

[37] Id.

[38] Id.

[39] See, e.g., Robinson v. City of New York, 143 A.D.3d 641 (1st Dep’t 2016).

[40] See, e.g., Taxi Tours Inc. v. Go New York Tours, Inc., 2024 WL 1097270, at *2 (N.Y. Ct. App. Mar. 14, 2024).

[41] TENNY, 2024 WL 1160498, at *6.

The Court’s opinion is available here.

Our lawyers are available to assist in addressing any questions you may have regarding developments at the New York Court of Appeals, or any other state or federal appellate courts in New York. Please feel free to contact any member of the firm’s Appellate and Constitutional Law practice group, or the following authors:

Mylan L. Denerstein – Co-Chair, Public Policy Practice Group, New York
(+1 212.351.3850, mdenerstein@gibsondunn.com)

Akiva Shapiro – Chair, New York Administrative Law & Regulatory Practice Group, New York
(+1 212.351.3830, ashapiro@gibsondunn.com)

Seth M. Rokosky – New York (+1 212.351.6389, srokosky@gibsondunn.com)

Join us for a 30-minute briefing covering several M&A practice topics. The program is part of a series of quarterly webcasts designed to provide quick insights into emerging issues and practical advice on how to manage common M&A problems. Steve Glover, a partner in the firm’s Global M&A Practice Group, will act as moderator.

Topics to be discussed:

Cassandra Gaedt-Sheckter and Ahmed Baladi will discuss how to address artificial intelligence issues in acquisition agreement representations and covenants;
Tom Kim will describe how the SEC’s proposed climate change disclosure rules may impact M&A practice; and
Jonathan Whalen will provide an update on developments in the representation and warranty insurance market.

PANELISTS

Stephen I. Glover is a partner in the Washington, D.C. office of Gibson, Dunn & Crutcher who has served as Co-Chair of the firm’s Global Mergers and Acquisitions Practice. Mr. Glover has an extensive practice representing public and private companies in complex mergers and acquisitions, joint ventures, equity and debt offerings and corporate governance matters. His clients include large public corporations, emerging growth companies and middle market companies in a wide range of industries. He also advises private equity firms, individual investors and others. Mr. Glover has been ranked in the top tier of corporate transactions attorneys in Washington, D.C. for the past seventeen years (2005 – 2023) by Chambers USA America’s Leading Business Lawyers. He has also been selected by Chambers Global for the past five years as a top lawyer for USA Corporate/M&A.

Cassandra Gaedt-Sheckter is a partner in Gibson, Dunn & Crutcher’s Palo Alto office, where she co-chairs the global Artificial Intelligence (AI) practice, and is a key member of the Privacy, Cybersecurity and Data Innovation practice, including as the leader of the firm’s State Privacy Law Task Force. With extensive experience advising companies on AI, data privacy, and cybersecurity issues, Cassandra focuses on regulatory compliance counseling and privacy and AI program development, regulatory enforcement matters, and transactional representations. Cassandra advises clients in various industries, from leading tech companies and luxury fashion companies, to shipping giants.

Ahmed Baladi is a partner in the Paris office of Gibson, Dunn & Crutcher and the co-chair of the firm’s Privacy, Cybersecurity and Data Innovation Practice Group. He specializes in information technology & digital transactions, outsourcing, data privacy and cybersecurity. Ahmed has developed renowned experience in a wide range of technological and digital matters. His practice covers complex technology transactions and outsourcing projects, particularly within the financial institutions sector; strategic digital transformation, such as acquisition or development of innovative solutions (lnternet of Things [IoT], Artificial Intelligence [AI], Fintech, big data and cloud based solutions); data privacy and cybersecurity, including compliance and governance projects in light of the GDPR, cross-border litigation requiring data transfer and Binding Corporate Rules and complex commercial transactions, particularly in the technology, energy, aerospace and pharmaceutical industries.

Thomas J. Kim is a partner in the Washington D.C. office of Gibson, Dunn & Crutcher, LLP, where he is a member of the firm’s Securities Regulation and Corporate Governance Practice Group. Mr. Kim focuses his practice on a broad range of SEC disclosure and regulatory matters, including capital raising and tender offer transactions and shareholder activist situations, as well as corporate governance, environmental social governance and compliance issues. He also advises clients on SEC enforcement investigations – as well as boards of directors and independent board committees on internal investigations – involving disclosure, registration, corporate governance and auditor independence issues. Mr. Kim has extensive experience handling regulatory matters for companies with the SEC, including obtaining no-action and exemptive relief, interpretive guidance and waivers, and responding to disclosures and financial statement reviews by the Division of Corporation Finance.

Jonathan Whalen is a partner in the Dallas office of Gibson, Dunn & Crutcher LLP. He is a member of the firm’s Mergers and Acquisitions, Capital Markets, Energy and Infrastructure, and Securities Regulation and Corporate Governance practice groups. Mr. Whalen also serves on the Gibson Dunn Hiring Committee. Mr. Whalen’s practice focuses on a wide range of corporate and securities transactions, including mergers and acquisitions, private equity investments, and public and private capital markets transactions. Chambers USA named Mr. Whalen an Up and Coming Corporate/M&A attorney in their 2022 publication. In 2018, D CEO magazine and the Association of Corporate Growth named Mr. Whalen a finalist for the 2018 Dallas Dealmaker of the Year.

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As more private companies begin to explore IPOs again after a difficult period in the markets, strong pre-IPO readiness can position companies to more swiftly access IPO market windows when they open. This presentation explores preliminary IPO planning considerations and key issues for private companies thinking about an IPO.

PANELIST

Harrison Tucker is a partner in the Houston office of Gibson, Dunn & Crutcher, where he currently practices with the firm’s Capital Markets and Securities Regulation and Corporate Governance practice groups. He regularly represents public and private businesses in a broad range of corporate and securities matters and issuers and investment banking firms in both equity and debt offerings, including Rule 144A offerings. His practice also includes general corporate concerns, including Exchange Act reporting, stock exchange compliance, corporate governance and beneficial ownership reporting matters. In addition, he works closely with the Gibson Dunn bankruptcy and restructuring team, advising on applicable securities laws issues.

Harrison received his J.D. from the University of Houston Law Center in 2008, where he was elected to the Order of the Coif and Order of Barons. While in law school, he served as a Member of the Houston Law Review. Prior to law school, he graduated from Texas A&M University in 2005, where he received his B.A. in history and was elected to Phi Beta Kappa.

Peter W. Wardle is a partner in the Los Angeles office of Gibson, Dunn & Crutcher. He is a member of the firm’s Corporate Transactions Department and co-chair of its Capital Markets Practice Group, and previously served as partner in charge of the Los Angeles office.

Peter’s practice includes representation of issuers and underwriters in equity and debt offerings, including IPOs and secondary public offerings, and representation of both public and private companies in mergers and acquisitions, including private equity, cross border, leveraged buy-out and going private transactions. He also advises clients on a wide variety of general corporate and securities law matters, including corporate governance and disclosure issues.

Peter earned his Juris Doctor in 1997 from the University of California, Los Angeles, School of Law, where he was elected to the Order of the Coif and served as business manager of the UCLA Law Review and articles editor of the UCLA Entertainment Law Review. He received an Bachelor of Arts degree cum laude in 1992 from Harvard University. Peter is a member of the Board of Directors and chair of the Governance Committee for The Colburn School. He is a member of the firm’s Compensation Committee, National Pro Bono Committee, and serves as one of the partners in charge and pro bono partners for the Los Angeles area offices.

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Melanie received her J.D. from the University of Michigan Law School in 2016, where she was the Managing Editor of the Michigan Business & Entrepreneurial Law Review. She earned her B.A., magna cum laude, in Communications, Legal Institutions, Economics and Government, with a minor in French, from American University in 2013.

MCLE CREDIT INFORMATION:

Gibson, Dunn & Crutcher LLP certifies that this activity has been approved for MCLE credit by the State Bar of California in the amount of 0.75 hour in the General Category.

Gibson, Dunn & Crutcher LLP is authorized by the Solicitors Regulation Authority to provide in-house CPD training. This program is approved for CPD credit in the amount of 0.75 hour. Regulated by the Solicitors Regulation Authority (Number 324652).

Neither the Connecticut Judicial Branch nor the Commission on Minimum Continuing Legal Education approve or accredit CLE providers or activities. It is the opinion of this provider that this activity qualifies for up to 0.75 hour toward your annual CLE requirement in Connecticut, including 0 hour(s) of ethics/professionalism.

Application for approval is pending with the Colorado, Illinois, Texas, Virginia, and Washington State Bars.

Key Developments:

On March 21, 2024, Chief Judge Diane Sykes of the United States Court of Appeals for the Seventh Circuit announced the resolution of a judicial misconduct complaint filed by America First Legal (AFL) against three judges on the United States District Court for the Southern District of Illinois. The complaint accused Chief Judge Nancy J. Rosenstengel, Judge Staci M. Yandle, and Judge David W. Dugan of race and sex discrimination in violation of Rule 4(a)(3) of the Rules for Judicial-Conduct and Judicial-Disability Proceedings, Canon 2A of the Code of Conduct for United States Judges, and the Fifth Amendment of the United States Constitution. AFL took issue with the judges’ policies that a motion for oral argument would be granted if “at all practicable to do so” where the moving party “intends to have a newer, female, or minority attorney” argue. The complaint drew the attention of Senators Ted Cruz (R-TX) and John Kennedy (R-LA), who sent a letter to Chief Judge Sykes arguing that the policies are unethical and unconstitutional in light of SFFA v. Harvard. In her order, Chief Judge Sykes stated that Judge Dugan had removed references to “women and underrepresented minorities” from his courtroom policies in October 2022, and that Judge Rosenstengel and Judge Yandle had both since rescinded the policies at issue. In letters attached to Chief Judge Sykes’ order, Judge Rosenstengel stated that she “chose the wrong means to accomplish [her] goal of expanding courtroom opportunities for young lawyers,” and Judge Yandle acknowledged that the now-rescinded policy, as worded, “created a perception of preferences based on immutable characteristics.”

Governor Kay Ivey signed Alabama Senate Bill 129 (S.B. 129) into law on March 20, one day after the bill passed both chambers of the Alabama General Assembly. The sweeping anti-DEI legislation prevents higher education institutions, public school boards, and state agencies from using state funds to support DEI programming, offices, or training, and prohibits these entities from teaching about certain “divisive concepts” related to race, bias, and meritocracy. The law also includes a measure that prohibits public universities from allowing transgender people to use bathrooms designated for their gender identity. Student groups, state Democrats, and advocacy groups like PEN America have campaigned against the law, noting Alabama’s fraught history with respect to race issues and criticizing the bill’s restrictions on speech and diversity initiatives. The law takes effect on October 1, 2024. A similar Kentucky bill, SB 6, has passed both chambers and will soon be sent to Governor Beshear’s desk. The governor is expected to veto the bill, but it is anticipated that a Republican supermajority will overrule the veto.

On March 19, conservative think tank Goldwater Institute filed a complaint against the Arizona Board of Regents, claiming that Arizona State University violated state law by requiring a professor to complete ASU’s “Inclusive Communities” training. The Institute alleges that the mandatory virtual training, which addressed issues including white supremacy and microaggressions, violated an Arizona law that prohibits the state from “us[ing] public monies for training, orientation or therapy that presents any form of blame or judgment on the basis of race, ethnicity or sex.” The Institute also asserts that the training violated the state constitution’s free-speech protections.

The Congressional Hispanic Caucus sent a letter to the leaders of Fortune 100 companies on March 11, 2024, calling for an increase in representation of Hispanics in executive roles. The letter asserts that, although nearly 20 percent of people living in the United States today are of Hispanic descent, only 4 percent of Fortune 100 CEOs are Hispanic. The caucus asked recipients to provide data on current Hispanic representation among senior and government relations staff, as well as the percentages of philanthropic funding and contract dollars awarded to Hispanic recipients and Hispanic-owned businesses. The requests are similar to those made in recent months by both the Congressional Asian Pacific American Caucus and the Congressional Black Caucus.

Media Coverage and Commentary:

Below is a selection of recent media coverage and commentary on these issues:

Bloomberg Law Daily Labor Report, “Firms From KKR to Coors Flag DEI as Business, Legal Risk” (March 11): Bloomberg’s Clara Hudson and Riddhi Setty report on the increasing number of public companies listing DEI as a “risk factor” in securities filings. According to an analysis by Bloomberg Law, JetBlue Airways Corp., Molson Coors Beverage Co., Blue Owl Capital Corp., Duolingo, Inc., and Leidos Holdings, Inc.—among others—have listed DEI as a legal or brand value risk on their most recent 10-Ks. Fordham University School of Law professor Atinuke Adediran says this can be a strategic choice; in the event of future DEI-related litigation, these securities filings may help the company defend against a related shareholder action. But Hudson and Setty note that companies listing DEI as a risk in their 10-Ks also list diversity as “pivotal to the success of their business,” and that most companies continue to recognize DEI as a key corporate value.
Fast Company, “DEI needs to get back on track—these leaders have solutions” (March 13): Tania Rahman reports on “The Fight for DEI,” a panel discussion hosted by Fast Company earlier this month at the South by Southwest festival. Lenovo’s Chief Diversity Officer Calvin Crosslin, Making Space Founder and CEO Keely Cat-Wells, and Upwork’s Head of Diversity, Inclusion, Belonging, and Access Erin L. Thomas spoke about the challenges facing DEI initiatives and offered potential paths forward. Upwork’s Thomas stated that companies have to be genuinely motivated for their DEI initiatives to succeed––companies that felt forced to adopt diversity programs in the wake of George Floyd’s murder, she believes, are those that have already scaled back. Making Space’s Cat-Wells emphasized the importance of tying DEI impact to business strategy, saying that viewing diversity through a “charity lens” doesn’t lead to permanent systemic change. And Lenovo’s Crosslin recognized the significant burdens of advancing DEI initiatives in the current political and legal climate, advocating for corporate executives to better support their DEI leaders.
New York Times Magazine, “The ‘Colorblindness’ Trap: How a Civil Rights Ideal Got Hijacked” (March 13): NYT Magazine staff writer and Howard University professor Nikole Hannah-Jones opines that the recent flurry of conservative legal activism around affirmative action and reverse discrimination is the latest step in a 50-year effort to reverse the constitutional legacies of the civil rights movement. In Hannah-Jones’ view, the SFFA decision is the Supreme Court’s latest effort to erode racial minorities’ constitutional rights, following in the footsteps of Parents Involved in Community Schools v. Seattle School District No. 1 in 2007 (holding that the school district’s school assignment policy designed to remedy historic racial segregation violated the Equal Protection Clause), and Shelby County v. Holder in 2013 (invalidating the Voting Rights Act provision requiring that the DOJ or a federal court approve proposed redistricting plans as not harmful to minority interests). Hannah-Jones provides a comprehensive history of reconstruction, desegregation, and the civil rights era, and she posits that this history has developed around a still-unresolved tension: “Do we ignore race in order to eliminate its power, or do we consciously use race to undo its harms?”
Law360 Employment Authority, “Worker’s 10th Circ. Loss May Aid Future DEI Challenges” (March 15): Law360’s Anne Cullen reports on the Tenth Circuit’s recent decision affirming dismissal of a harassment and discrimination suit brought by a white male former Colorado Department of Corrections officer. The officer alleged that the Corrections Department’s DEI seminar about white supremacy and racial injustice violated Title VII, but the district court dismissed the complaint, concluding that any effects of the program were not severe or pervasive enough to constitute a hostile work environment. But in the majority opinion affirming the dismissal, Judge Timothy Tymkovich wrote that the “race-based rhetoric” included in the seminar was “well on the way to arriving at objectively and subjectively harassing messaging” that “could promote racial discrimination and stereotypes within the workplace.” Jason Schwartz, Gibson Dunn partner and co-head of the firm’s Labor and Employment practice group, called the decision “a signal that they’re certainly not shutting the courthouse door to these claims.” “If anything, they’re saying come on back with more, and we’ll see,” said Schwartz, who concluded that the majority decision “provided a road map for a future challenge to DEI training.” Judge Scott Matheson Jr.—who wrote separately to concur only in the result—took issue with the majority’s “unnecessary” commentary on the Correction Department’s seminar and “the potential for future legal challenges to it or other [DEI] programs.”
National Law Journal, “‘Tip of the Iceberg’: Appellate Ruling Provides Roadmap for Bias Suits Over DEI Training” (March 18): The National Law Journal’s Avalon Zoppo reports on two recent appellate decisions addressing reverse-discrimination claims. On March 11, the Tenth Circuit issued one of the first appellate decisions involving a claim that DEI training creates a hostile work environment for white employees. The panel affirmed a district court’s dismissal of the case, holding that any harassment resulting from the DEI training was neither severe nor pervasive. The majority opinion nonetheless expressed concern that the training’s “race-based rhetoric” had the potential to place employees who express criticism of diversity programming at risk of “being individually targeted for discriminatory treatment.” And on March 12, the Fourth Circuit partially upheld a jury’s verdict for a former executive who contended that he was fired intentionally to make room for a more diverse workforce. Zoppo reports that Gibson Dunn’s Jason Schwartz called these two cases “the tip of the iceberg” and predicted and there will “be a huge number of reverse discrimination type cases filed this year and in subsequent years.”
Law360, “EEOC Official Flags ‘Overblown’ Takes On Admissions Ruling” (March 19): Law360’s Vin Gurrieri reports on comments made by Equal Employment Opportunity Commission Vice Chair Jocelyn Samuels about the impact of the SFFA decision on corporate diversity initiatives. Speaking as part of a panel at the American Bar Association’s recent conference on equal employment opportunity law, Vice Chair Samuels acknowledged that “there have been a lot of allegations about the ways in which the SFFA decision affects employment programs” but called those allegations “way overblown,” as “there is nothing about the SFFA decision that applies to the vast majority of DEI programs in employment for several reasons.” Vice Chair Samuels emphasized that multiple factors—the education context, the underlying law, and the degree to which challenged policies expressly authorized the consideration of race in conferring benefits—distinguish SFFA from lawful corporate initiatives attempting to ensure equal opportunities in the workplace. In light of “the persistence of entrenched inequities that are too often based on race or gender or national origin,” Vice Chair Samuels emphasized “that employers are not under the law required to turn a blind eye to trying to address these kinds of inequities.”
Law360 Employment Authority, “DEI Backers Clinch Big Wins, But The Fight Is Far From Over” (March 19): Law360’s Anne Cullen highlights three recent appellate decisions that gave “a boost” to corporate DEI initiatives. On March 4, the Eleventh Circuit affirmed a district court order preliminarily enjoining operation of Florida’s “Stop WOKE Act,” which would prohibit employers from requiring employees to participate in trainings that identify certain groups of people as “privileged” or “oppressors.” On March 6, the Second Circuit affirmed a district court dismissal of the medical advocacy association Do No Harm’s reverse-discrimination claims against Pfizer, holding that a plaintiff relying on organizational standing must name at least one affected member to establish Article III standing. And on March 11, the Tenth Circuit affirmed dismissal of a white former correctional officer’s suit against the Colorado Department of Corrections based on alleged harassment in a racial equity seminar. But Cullen refers to the Tenth Circuit decision as a “double-edged sword”––the majority opinion affirmed that the effects of the training program were not severe or pervasive enough to support a hostile work environment claim, but also expressed concern about the program, providing a road map for future challenges to DEI training programs. Meanwhile, on March 12, the Fourth Circuit partially upheld a jury verdict awarded to a white male marketing executive who sued his former employer alleging that he was fired without cause from his management position because of his race and sex. Gibson Dunn’s Jason Schwartz said the Fourth Circuit decision would encourage similar lawsuits: “If you’ve got a plaintiff who is a white employee saying that he was displaced as part of a larger corporate diversity initiative, this case is going to add fuel to that fire.”
New York Times, “America First Legal, a Trump-Aligned Group, Is Spoiling for a Fight” (March 21): The Times’ Robert Draper reports on the recent efforts of America First Legal Foundation (AFL), the conservative organization founded and run by former Trump policy advisor Stephen Miller. AFL, which Draper refers to as “a policy harbinger for a second Trump term” and which Miller has called “the long-awaited answer to the A.C.L.U.,” has filed or submitted more than 100 lawsuits, EEOC complaints, amicus briefs, and demand letters over the past three years. Draper notes that although the substance of these challenges has varied, all have sought to advance the same “hard-line views on immigration, gender and race” that Miller prioritized during his time in the White House. AFL’s success rate is hard to determine, as many of the group’s lawsuits remain pending and the EEOC does not comment on complaints or investigations. But Draper posits that “winning” is not necessarily the group’s goal; ACLU Executive Director Anthony D. Romero reportedly told Draper that AFL seems “less interested in defending core [legal] principles and more about cherry-picking cases that feed the grievances of the MAGA wing of the Republican Party.”
Washington Lawyer, “Defending Diversity: DEI Practice Groups on the Rise” (March/April 2024): Washington Lawyer contributor William Roberts reports on the growth of law firm practice groups “aimed at helping companies reduce their legal risk and defend diversity efforts” following SFFA. Molly Senger, Gibson Dunn Labor and Employment partner and co-leader of the firm’s DEI Task Force, told Roberts that the team’s work requires a dual focus on “both advice work and litigation,” highlighting the firm’s recent Eleventh Circuit defense of Fearless Fund, a venture capital group that provides financing to black female entrepreneurs. The Task Force is also watching for the Supreme Court’s much-anticipated decision in Muldrow v. City of St. Louis; Senger told Roberts that, “[d]epending on how the Supreme Court rules, it could significantly expand the scope of conduct in the workplace that could give rise to Title VII claims,” leading to “a proliferation of Title VII litigation challenging corporate DEI programs.” Although many companies, nonprofits, and other organizations are actively assessing their legal risk, they also seek to maintain commitment to diversity efforts. As Dariely Rodriguez, deputy chief counsel for the Lawyers’ Committee for Civil Rights Under Law, told Roberts, given “persistent systemic discrimination” against minorities, it remains “important to lean into what’s possible under the law.”

Case Updates:

Below is a list of updates in new and pending cases:

1. Contracting claims under Section 1981, the U.S. Constitution, and other statutes:

Do No Harm v. National Association of Emergency Medical Technicians, No. 3:24-cv-11-CWR-LGI (S.D. Miss. 2024): On January 10, 2024, Do No Harm challenged the diversity scholarship program operated by the National Association of Emergency Medical Technicians (NAEMT), an advocacy group representing paramedics, EMTs, and other emergency professionals. NAEMT awards up to four $1,250 scholarships to students of color hoping to become EMTs or Paramedics. Do No Harm requested a temporary restraining order, preliminary injunction, and permanent injunction against the program. On January 23, 2024, the court denied Do No Harm’s motion for a TRO and expressed skepticism that the group had standing to bring its Section 1981 claim, since the anonymous member had “only been deterred from applying, rather than refused a contract.” On February 29, 2024, NAEMT filed an answer and motion to dismiss.
- Latest update: On March 4, Do No Harm filed an amended complaint, alleging that “Member A,” the anonymous potential applicant for NAEMT’s scholarship program, had now enrolled in a one-semester EMS course, whereas she previously had simply registered to begin the course. As a result, Do No Harm withdrew its original motion to dismiss and filed a new answer and motion to dismiss on March 18. NAEMT argues in its new motion that even though the amended complaint now includes allegations that “Member A” has satisfied a prerequisite for the scholarship program, Do No Harm has still failed to plead a cause of action under Section 1981 because there is no contractual relationship between a would-be applicant and NAEMT. NAEMT also reasserted its argument that Do No Harm lacks associational standing because it has not identified by name a plaintiff who has suffered a concrete injury.
Am. Alliance for Equal Rights v. Zamanillo, No. 1:24-cv-509-JMC (D.D.C. 2024): On February 22, 2024, AAER filed a complaint and motion for a preliminary injunction against Jorge Zamanillo in his official capacity as the Director of the National Museum of the American Latino, part of the Smithsonian Institution. The complaint targets the Museum’s internship program, which aims to provide Latino, Latina, and Latinx undergraduates with training in non-curatorial art museum careers. AAER claims that the program constitutes race discrimination in violation of the Fifth Amendment because the Museum considers the race of applicants in choosing interns and allegedly refuses to hire non-Latino applicants. AAER has asked for an injunction to prevent the Museum from closing the application window on April 1, or selecting interns for the program (currently scheduled to begin in late April).
- Latest update: On March 8, the Museum opposed AAER’s preliminary injunction motion and moved to dismiss for lack of jurisdiction. The Museum argued that AAER does not have Article III standing because “Member A” did not apply to the challenged internship and therefore was not denied an internship based on his or her race or ethnicity. Furthermore, the museum argued that AAER does not meet the “redressability” prong of the preliminary injunction test because the program does not consider an applicant’s race, so any injunction to prohibit race-based admissions decisions would have no effect. The plaintiff’s opposition to the motion to dismiss is due on March 29.
Do No Harm v. Gianforte, No. 6:24-cv-00024 (D. Mont. 2024): On March 12, 2024, Do No Harm filed a complaint on behalf of a white female dermatologist in Montana, alleging that a Montana law requiring the governor to “take positive action to attain gender balance and proportional representation of minorities resident in Montana to the greatest extent possible” when making appointments to the Medical Board violates the Equal Protection Clause of the Fourteenth Amendment. The complaint further alleges that since the ten filled seats are currently held by six women and four men, Montana law requires that the remaining two seats be filled by men, which would preclude the plaintiff from holding the seat.
- Latest update: The defendant has not yet responded to the complaint.
Californians for Equal Rights Foundation v. City of San Diego, et al., No. 3:24-cv-00484-MMA-MSB (S.D. Cal. 2024): On March 12, 2024, the Californians for Equal Rights Foundation filed a complaint on behalf of members who are “ready, willing and able” to purchase a home in San Diego, but ineligible for a grant or loan under the City’s BIPOC First-Time Homebuyer Program. The plaintiffs allege that the program discriminates on the basis of race in violation of the Equal Protection Clause of the Fourteenth Amendment.
- Latest update: The defendants have not yet responded to the complaint.
Do No Harm v. Pfizer, No. 1:22-cv-07908–JLR (S.D.N.Y. 2022), on appeal at No. 23-15 (2d Cir. 2023): On September 15, 2022, plaintiff association representing physicians, medical students, and policymakers sued Pfizer, alleging that the company’s Breakthrough Fellowship Program, which provided minority college seniors summer internships, two years of employment post-graduation, and a scholarship, violated Section 1981, Title VII, and New York law. The association alleges that the program illegally excludes white and Asian applicants. The association is represented by Consovoy McCarthy PLLC, the firm that also represents American Alliance for Equal Rights in multiple lawsuits. In December 2022, the court granted Pfizer’s motion to dismiss, finding that the plaintiff did not have associational standing because they did not identify at least one member by name, instead only submitting declarations from anonymous members. The Second Circuit affirmed the dismissal on March 6, 2024.
- Latest update: On March 20, 2024, Do No Harm filed with the Second Circuit a petition for rehearing en banc, arguing that the panel’s opinion “splits with at least two circuits and creates an irreconcilable line of intracircuit precedent.”

2. Employment discrimination and related claims:

Gerber v. Ohio Northern University, et al., No. 2023-1107-CVH (Ohio. Ct. Common Pleas Hardin Cnty. 2023): On June 30, 2023, a law professor sued his former employer, Ohio Northern University, for terminating his employment after an internal investigation determined that he bullied and harassed other faculty members. On January 23, 2024, the plaintiff, now represented by America First Legal, filed an amended complaint. The plaintiff claims that his firing was actually in retaliation for his vocal and public opposition to the university’s stated DEI principles and race-conscious hiring, which he believed were illegal. The plaintiff alleged that the investigation and his termination breached his employment contract, violated Ohio civil rights statutes, and constituted various torts, including defamation, false light, conversion, infliction of emotional distress, and wrongful termination in violation of public policy.
- Latest update: On February 28, the plaintiff filed an opposition to Ohio Northern University’s motion to dismiss the second amended complaint, arguing that he adequately stated a claim for defamation and intentional infliction of emotional distress because he alleged that the university made false accusations of misconduct against him. On March 13, the defendants filed their reply, arguing that Gerber’s discrimination and defamation claims against university officials in their individual capacity should be dismissed because the university was engaged in official academic activities. On March 18, the plaintiff filed a motion to voluntarily dismiss two of his claims—for conversion and replevin––citing the university’s return of property left in his former office.
Rogers v. Compass Group USA, Inc., No. 23-cv-1347 (S.D. Cal. 2023): On July 24, 2023, a former recruiter for Compass Group USA sued the company under Title VII for allegedly terminating her after she refused to administer the company’s “Operation Equity” diversity program, in which only women and people of color were entitled to participate. The plaintiff alleged that she was wrongfully terminated after she requested a religious accommodation to avoid managing the program, claiming it conflicted with her religious beliefs.
- Latest update: On March 21, the parties filed a stipulation of dismissal, stating that they had reached an undisclosed agreement to settle the case on February 28.

3. Challenges to agency rules, laws, and regulatory decisions:

American Alliance for Equal Rights v. Ivey, No. 2:24-cv-00104-RAH-JTA (M.D. Ala. 2024): On February 13, 2024, AAER filed a complaint against Alabama Governor Kay Ivey, challenging a state law that requires Governor Ivey to ensure there are no fewer than two individuals “of a minority race” on the Alabama Real Estate Appraisers Board (AREAB). The AREAB consists of nine seats, including one for a member of the public with no real estate background (the at-large seat), which has been unfilled for years. Because there was only one minority member among the Board at the time of filing, AAER asserts that state law will require that the open seat go to a minority. AAER states that one of its members applied for this final seat, but was denied purely on the basis of race, in violation of the Equal Protection Clause of the Fourteenth Amendment.
- Latest update: On March 11, AAER moved for a temporary restraining order and preliminary injunction to prevent the Governor from enforcing the statute and to require her to withdraw her pending Board appointments. In response, Ivey argued that AAER had not shown irreparable harm and lacked standing via anonymous “Member A.” On March 15, the court ordered AAER to “file under seal the name of Member A” that day. On March 18, the court held a hearing on the emergency motion for a temporary restraining order and preliminary injunction, and on March 19 denied AAER’s motion, holding that AAER has standing, but is not entitled to a TRO and preliminary injunction because it will not suffer irreparable harm.
Valencia AG, LLC v. New York State Off. of Cannabis Mgmt. et al, No. 5:24-cv-116-GTS (N.D.N.Y. 2024): On January 24, 2024, Valencia AG, a cannabis company owned by white men, sued the New York State Office of Cannabis Management for discrimination, alleging that New York’s Cannabis Law and implementing regulations favored minority-owned and women-owned businesses. The regulations include goals to promote “social & economic equity” (“SEE”) applicants, which the plaintiff claims violates the Equal Protection Clause and Section 1983. On February 7, 2024, the plaintiff filed a motion for a temporary restraining order and preliminary injunction, seeking to prohibit the defendants from implementing the regulations, charging SEE applicants reduced fees, or preferentially granting SEE applicants’ applications.
- Latest update: On March 5, the defendants filed their opposition to the plaintiff’s motion for a preliminary injunction. On March 8, plaintiff’s new counsel, Pacific Legal Foundation, asked to withdraw the plaintiff’s motion for a preliminary injunction, which the court granted. On March 13, the plaintiff filed an amended complaint, naming only two New York state officials as defendants in their official capacity and voluntarily dismissing others, including the claims against the two officials in their personal capacity.

4. Actions against educational institutions:

Chu, et al. v. Rosa, No. 1:24-cv-75-DNH-CFH (N.D.N.Y. 2024): On January 17, 2024, a coalition of education groups sued the Education Commissioner of New York, alleging that its free summer program discriminates on the bases of race and ethnicity. The Science and Technology Entry Program (STEP) permits students who are Black, Hispanic, Native American, and Alaskan Native to apply regardless of their family income level, but all other students, including Asian and white students, must demonstrate “economically disadvantaged status.” The plaintiffs sued under the Equal Protection clause and requested preliminary and permanent injunctions against the enforcement of the eligibility criteria.
- Latest update: On March 18, the defendant moved to dismiss for lack of standing, arguing that neither the organizational plaintiffs (comprised of parent members) nor the named parent plaintiff have suffered any personal or individual injury, and that the plaintiffs cannot sue for alleged violations of members’ rights as prospective STEP applicants. The plaintiffs’ response is due on April 8.

The following Gibson Dunn attorneys assisted in preparing this client update: Jason Schwartz, Mylan Denerstein, Blaine Evanson, Molly Senger, Zakiyyah Salim-Williams, Matt Gregory, Zoë Klein, Mollie Reiss, Alana Bevan, Marquan Robertson, Elizabeth Penava, Skylar Drefcinski, Mary Lindsay Krebs, David Offit, Lauren Meyer, Kameron Mitchell, Maura Carey, and Jayee Malwankar.

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, any member of the firm’s Labor and Employment practice group, or the following practice leaders and authors:

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

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

Mylan L. Denerstein – Partner & Co-Chair, Public Policy Group
New York (+1 212-351-3850, mdenerstein@gibsondunn.com)

Zakiyyah T. Salim-Williams – Partner & Chief Diversity Officer
Washington, D.C. (+1 202-955-8503, zswilliams@gibsondunn.com)

Molly T. Senger – Partner, Labor & Employment Group
Washington, D.C. (+1 202-955-8571, msenger@gibsondunn.com)

Blaine H. Evanson – Partner, Appellate & Constitutional Law Group
Orange County (+1 949-451-3805, bevanson@gibsondunn.com)

From the Derivatives Practice Group: ISDA and ESMA were particularly active this week, releasing several global reports.

New Developments

CFTC’s Energy and Environmental Markets Advisory Committee to Meet February 13. On January 30, 2024, CFTC Commissioner Summer K. Mersinger, sponsor of the Energy and Environmental Markets Advisory Committee (EEMAC) announced the EEMAC will hold a public meeting from 9:00 a.m. to 11:30 a.m. (MST) on Tuesday, February 13 at the Colorado School of Mines in Golden, Colorado. The CFTC stated that at this meeting, the EEMAC will explore the role of rare earth minerals in transitional energy and electrification, including the potential development of derivatives products to offer price discovery and hedging opportunities in these markets. Additionally, the meeting will include a presentation and discussion on the federal prudential financial regulators proposed rules implementing Basel III and the implications for and impact on the derivatives market. Finally, the two EEMAC subcommittees will offer an update on their continued work related to traditional energy infrastructure and metals markets. [NEW]
CFTC Cautions the Public to Beware of Artificial Intelligence Scams. On January 25, the CFTC’s Office of Customer Education and Outreach issued a customer advisory warning the public about Artificial Intelligence (AI) scams. Customer Advisory: AI Won’t Turn Trading Bots into Money Machines explains how the scams use the potential of AI technology to defraud investors with false claims that entice them to hand over their money or other assets to fraudsters who misappropriate the funds and deceive investors. The advisory warns investors that claims of high or guaranteed returns are red flags of fraud and that strangers promoting these claims online should be ignored. The CFTC stated that the advisory is intended to help investors identify and avoid potential scams and includes a reminder that AI technology cannot predict the future. It also lists four items investors may consider to avoid such scams: researching the background of a company or trader, researching the history of the trading website, getting a second opinion, and knowing the risks associated with the underlying assets.
CFTC Staff Releases Request for Comment on the Use of Artificial Intelligence in CFTC-Regulated Markets. On January 25, the CFTC’s Divisions of Market Oversight, Clearing and Risk, Market Participants, and Data and the Office of Technology Innovation issued a request for comment (RFC) in an effort to better inform them on the current and potential uses and risks of AI in the derivatives markets that the CFTC regulates. The RFC seeks comment on the definition of AI and its applications, including its use in trading, risk management, compliance, cybersecurity, recordkeeping, data processing and analytics, and customer interactions. The RFC also seeks comment on the risks of AI, including risks related to market manipulation and fraud, governance, explainability, data quality, concentration, bias, privacy and confidentiality and customer protection. The CFTC indicated that staff will consider the responses to the RFC in analyzing possible future actions by the CFTC, such as new or amended guidance, interpretations, policy statements, or regulations. Comments will be accepted until April 24, 2024.
CFTC Seeks Public Comment on Proposed Capital Comparability Determination for Swap Dealers Subject to Supervision by the UK Prudential Regulation Authority. On January 24, the CFTC solicited public comment on a substituted compliance application requesting that the CFTC determine that certain CFTC-registered nonbank swap dealers located in the United Kingdom may satisfy certain Commodity Exchange Act capital and financial reporting requirements by being subject to, and complying with, comparable capital and financial reporting requirements under UK laws and regulations. The Institute of International Bankers, the International Swaps and Derivatives Association, and the Securities Industry and Financial Markets Association submitted the application. In connection with the application, the CFTC also solicited public comment on a proposed comparability determination and related order providing for the conditional availability of substituted compliance to CFTC-registered nonbank swap dealers under the UK Prudential Regulation Authority’s prudential supervision. The comment period will be open until March 24, 2024.
BGC Group Announces Approval for FMX Futures Exchange. On January 22, BGC Group, Inc. (BGC) announced that its FMX Futures Exchange (FMX) received approval from the CFTC to operate an exchange for U.S. Treasury and SOFR futures. BGC will combine their Fenics UST cash Treasury platform and FMX to work across the CME’s U.S. interest rate complex. FMX is party to a clearing agreement with LCH SwapClear, a holder of interest rate collateral, which it indicated will allow for portfolio margining across rates of risk and provide for margin efficiencies and effective risk management.
CFTC Cancels Open Meeting. On January 20, the CFTC cancelled its open meeting scheduled for January 22. According to the CFTC, Tthe following matters will be resolved through the CFTC’s seriatim process:
- Notice of Proposed Order and Request for Comment on an Application for a Capital Comparability Determination Submitted on behalf of Nonbank Swap Dealers subject to Capital and Financial Reporting Requirements of the United Kingdom and Regulated by the United Kingdom Prudential Regulation Authority,
- Proposed Rule: Requirements for Designated Contract Markets and Swap Execution Facilities Regarding Governance and the Mitigation of Conflicts of Interest Impacting Market Regulation Functions.
CFTC Designates IMX Health, LLC as a Contract Market. On January 18, the CFTC announced it has issued an Order of Designation to IMX Health, LLC, granting it designation as a contract market (DCM). IMX Health is a limited liability company registered in Delaware and headquartered in Chicago, Illinois. The CFTC issued the order under Section 5a of the Commodity Exchange Act (CEA) and CFTC Regulation 38.3(a). The CFTC determined IMX Health demonstrated its ability to comply with the CEA provisions and CFTC regulations applicable to DCMs. With the addition of IMX Health, there will be 17 DCMs.
CFTC Issues Staff Letter No. 24-01. On January 16, the CFTC issued Staff Letter No. 24-01, granting an exemption to LCH SA from the requirements of Regulation 1.49(d) to permit LCH SA to hold customer funds at the Banque du France. Additionally, the CFTC confirmed that it would not recommend enforcement action against LCH SA for failing to obtain, or provide the Commission with, an executed version of the template acknowledgment letter set forth in Appendix B to Regulation 1.20 , as required by Regulations 1.20(g)(4) and 22.5, for customer accounts maintained at the Banque de France.

New Developments Outside the U.S.

ESAs Recommend Steps to Enhance the Monitoring of BigTechs’ Financial Services Activities. On February 1, the European Supervisory Authorities (ESAs) published a Report setting out the results of a stock take of BigTech direct financial services provision in the EU. The Report identifies the types of financial services currently carried out by BigTechs in the EU pursuant to EU licenses and highlights inherent opportunities, risks, regulatory and supervisory challenges. The stock take showed that BigTech subsidiary companies currently licensed to provide financial services pursuant to EU law mainly provide services in the payments, e-money and insurance sectors and, in limited cases, the banking sector. However, the ESAs have yet to observe their presence in the market for securities services. To further strengthen the cross-sectoral mapping of BigTechs’ presence and relevance to the EU’s financial sector, the ESAs propose to set-up a data mapping tool. The ESAs explained that this tool is intended to provide a framework that supervisors from the National Competent Authorities would be able to use to monitor on an ongoing and dynamic basis the BigTech companies’ direct and indirect relevance to the EU financial sector. [NEW]
ESMA Publishes Risk Monitoring Report. On January 31, the European Securities and Markets Authority (ESMA) published its first risk monitoring report of 2024, where it sets out the key risk drivers currently facing financial markets. Beyond the risk drivers, ESMA’s report provides an update on structural developments and the status of key sectors of financial markets, during the second half of 2023. The report considers structural developments in various areas, including market-based finance, sustainable finance, securities markets, and asset management. [NEW]
ESMA Consults on Reverse Solicitation and Classification of Crypto Assets as Financial Instruments Under MiCA. On January 29, ESMA, published two Consultations Papers on guidelines under Markets in Crypto Assets Regulation (MiCA), one on reverse solicitation and one on the classification of crypto-assets as financial instruments. ESMA is seeking input on proposed guidance relating to the conditions of application of the reverse solicitation exemption and the supervision practices that National Competent Authorities may take to prevent its circumvention. ESMA is also seeking input on establishing clear conditions and criteria for the qualification of crypto-assets as financial instruments. [NEW]
EC Publishes Amendments to Clearing Obligation Scope in Light of Benchmark Reform. On January 22, the delegated regulation amending the regulatory technical standards (RTS) defining the scope of the clearing obligation (CO) was published in the EU Official Journal, with the amended requirements due to enter into force 20 days after publication. The European Commission (EC) stated that the amendments were introduced in light of the transition to the TONA and SOFR benchmarks referenced in certain over-the-counter derivatives contracts. The amendment to the scope of the CO consists of introducing TONA overnight indexed swaps (OIS) with maturities up to 30 years and extending the SOFR OIS class subject to the CO to maturities up to 50 years. The adoption follows the publication by ESMA, on February 1, 2023, of its final report on changes to the scope of the CO and the derivatives trading obligations (DTO) in light of the benchmark transition, following a consultation last year, to which ISDA responded on September 30, 2022. This ESMA report included two draft amending RTS: one draft RTS amending the scope of the CO and one draft RTS amending the scope of the DTO. The delegated regulation containing the RTS amending the scope of the CO has now been published. The RTS on the DTO has not yet been adopted.

New Industry-Led Developments

ISDA Response on Anti-Greenwashing Rules. On January 26, ISDA submitted a response to the UK Financial Conduct Authority’s consultation on xGC23/3: Guidance on the Anti-Greenwashing Rule. In the response, ISDA highlights that actual or perceived misrepresentation of sustainability features may have a detrimental impact on investor and consumer perceptions of sustainable finance products, and ISDA supports efforts to enhance trust in the market. ISDA considers that sustainability-linked derivatives, environmental, social and governance derivatives and voluntary carbon credits fall within the scope of the rule. [NEW]
Joint Response to EC on BMR. On January 23, ISDA, the Global Financial Markets Association and the Futures Industry Association (FIA) submitted a joint response to the EC call for feedback on the review of the scope and regime for non-EU benchmarks. The response sets out the associations’ comments on the EC’s proposal, along with potential draft amendments and additional revisions that were considered to support the EC’s aims. In the response, the associations welcome the EC’s recognition of the problems caused by the current drafting of the Benchmark Regulation (BMR). The associations support the aim of establishing a third-country regime that is sustainable in the long term once the current transitional regime expires, and overall consider that the proposal will result in a more proportionate regime for users and administrators of benchmarks. [NEW]
ISDA, FIA Respond to MAS Consultation on Amendments to the Capital Framework for Approved Exchanges and Clearing Houses. On January 22, ISDA and the FIA jointly responded to the consultation from the Monetary Authority of Singapore (MAS) on proposed amendments to the capital framework for approved exchanges and approved clearing houses. The scope of the response is limited to the capital framework for approved clearing houses. The associations stated that they welcomed the introduction of a separate liquidity requirement and proposed that MAS consider a more conservative minimum threshold of at least 12 months of operating expenses. They also agreed with the proposed amendments that capital components should only include equity instruments and exclude an approved clearing house’s skin-in-the-game. For total risk requirement, the response suggests the alignment of the operational risk component with the liquidity risk requirement and the inclusion of some clarifications on the investment risk and general counterparty risk components.
ISDA Launches Digital Version of 2002 ISDA Equity Derivatives Definitions. On January 18, ISDA launched a fully digital edition of the 2002 ISDA Equity Derivatives Definitions on the ISDA MyLibrary platform, enabling new versions to be released more efficiently as products and market practices evolve in the future. Following consultation with buy- and sell-side market participants, ISDA identified support to move the definitions to a digital format, develop new product provisions and streamline certain components over time. Publication of the 2002 ISDA Equity Derivatives Definitions in digital form is a first step and enables further changes to be made in future versions.
BCBS-IOSCO Report Sets Out Recommendations for Good Margin Practices in Non-Centrally Cleared Markets. On January 17, the Basel Committee on Banking Supervision (BCBS) and the International Organization of Securities Commissions (IOSCO) published a report on streamlining VM processes and IM responsiveness of margin models in non-centrally cleared markets, which sets out recommendations for market practices intended to enhance market functioning. The report articulates the policy analyses work carried out by the BCBS-IOSCO in two areas discussed in the September 2022 Review of margining practices: (i) exploring the need to streamline variation margin processes in non-centrally cleared markets and (ii) investigating the responsiveness of initial margin models in non-centrally cleared markets. The consultative report sets out eight recommendations intended to encourage the widespread implementation of good market practices but does not propose any policy changes to the BCBS-IOSCO frameworks. BCBS and IOSCO stated that the first four recommendations aim to address challenges that could inhibit a seamless exchange of variation margin during a period of stress. The other four highlight practices for market participants to implement initiatives in an effort to ensure the calculation of initial margin is consistently adequate for contemporaneous market conditions and proposes that supervisors should monitor whether these developments are sufficient to make this model responsive enough to extreme market shocks.
ISDA Launches Sustainability-linked Derivatives Clause Library. On January 17, ISDA launched a clause library for sustainability-linked derivatives (SLDs), designed to provide standardized drafting options for market participants to use when negotiating SLD transactions with counterparties. SLDs embed a sustainability-linked cashflow in a derivatives structure and use key performance indicators (KPIs) to monitor compliance with environmental, social and governance (ESG) targets, incentivizing parties to meet their sustainability objectives.
BCBS, CPMI, and IOSCO Publish Consultative Report on Transparency and Responsiveness of Initial Margin in Centrally Cleared Markets. On January 16, BCBS, the Bank for International Settlements’ Committee on Payments and Market Infrastructures (CPMI) and IOSCO jointly published a consultative report—Transparency and responsiveness of initial margin in centrally cleared markets– review and policy proposals—which interested parties are invited to comment on. BCBS, CPMI, and IOSCO stated that the ten policy proposals in the report aim to increase the resilience of the centrally cleared ecosystem by improving participants’ understanding of central counterparties (CCPs) initial margin calculations and potential future margin requirements. The proposals cover CCP simulation tools, CCP disclosures, measurement of initial margin responsiveness, governance frameworks and margin model overrides, and clearing member transparency.
ISDA and SIFMA Response to US Basel III NPR. On January 16, ISDA and the Securities Industry and Financial Markets Association (SIFMA) submitted a joint response on the US Basel III ‘endgame’ notice of proposed rulemaking (NPR). The response focuses on the Fundamental Review of the Trading Book (FRTB), the revised credit valuation adjustment (CVA) framework, the securities financing transactions requirements and elements of the standardized approach to counterparty credit risk rules. In the response, the associations propose a number of calibration changes to ensure the rules are appropriate and risk sensitive and avoid adverse consequences to US capital markets.
ISDA and SIFMA Response to G-SIB Surcharge Framework Consultation. On January 16, ISDA and SIFMA submitted a response to a consultation by the US Federal Reserve on proposed changes to the G-SIB surcharge. The response raises concerns that the revised G-SIB surcharge would lead to inappropriately high capital requirements for banks offering client clearing services, potentially discouraging them from participating in this business and contravening a long-standing policy objective to promote central clearing. Specifically, the response argues that client derivatives transactions cleared under the agency model should not be included in the complexity and interconnectedness categories of the G-SIB surcharge calculation.

The following Gibson Dunn attorneys assisted in preparing this update: Jeffrey Steiner, Adam Lapidus, Marc Aaron Takagaki, Hayden McGovern, and Karin Thrasher.

Jeffrey L. Steiner, Washington, D.C. (202.887.3632, jsteiner@gibsondunn.com)

Michael D. Bopp, Washington, D.C. (202.955.8256, mbopp@gibsondunn.com)

Michelle M. Kirschner, London (+44 (0)20 7071.4212, mkirschner@gibsondunn.com)

Darius Mehraban, New York (212.351.2428, dmehraban@gibsondunn.com)

Jason J. Cabral, New York (212.351.6267, jcabral@gibsondunn.com)

Adam Lapidus – New York (+1 212.351.3869, alapidus@gibsondunn.com)

Stephanie L. Brooker, Washington, D.C. (202.887.3502, sbrooker@gibsondunn.com)

Roscoe Jones Jr., Washington, D.C. (202.887.3530, rjones@gibsondunn.com)

William R. Hallatt, Hong Kong (+852 2214 3836, whallatt@gibsondunn.com)

David P. Burns, Washington, D.C. (202.887.3786, dburns@gibsondunn.com)

Marc Aaron Takagaki, New York (212.351.4028, mtakagaki@gibsondunn.com)

Hayden K. McGovern, Dallas (214.698.3142, hmcgovern@gibsondunn.com)

Karin Thrasher, Washington, D.C. (202.887.3712, kthrasher@gibsondunn.com)

Among the meaningful changes in the Final Rules, the Commission did not adopt a safe harbor from the “investment company” definition under the Investment Company Act of 1940, as amended (the “Investment Company Act”) for SPACs.

On January 24, 2024, the U.S. Securities and Exchange Commission (the “Commission”), by a three-to-two vote, adopted new rules and amendments (the “Final Rules”) to enhance disclosure and investor protections in initial public offerings (“IPO”) by special purpose acquisition companies (“SPACs”) and in subsequent business combinations between SPACs and private operating companies (“de-SPAC transaction”).[1]

The Final Rules are thematically aligned with the rule proposal issued by the Commission nearly two years ago in March 2020,[2] but with meaningful changes as noted below, including not adopting a safe harbor from the “investment company” definition under the Investment Company Act of 1940, as amended (the “Investment Company Act”) for SPACs.

The adopting release for the Final Rules (the “Adopting Release”) provides a lengthy and comprehensive discussion that builds upon the Commission’s prior statements and actions regarding SPAC IPOs and de-SPAC transactions.[3] As noted by the Commission’s Chair, Gary Gensler, in the accompanying press release, the Final Rules are intended to “help ensure that the rules for SPACs are substantially aligned with those of traditional IPOs.”[4] Chair Gensler further noted that the measures adopted in the Final Rules “will help protect investors by addressing information asymmetries, misleading information, and conflicts of interest in SPAC and de-SPAC transactions.”[5]

The Adopting Release is available here and a Fact Sheet is available here. The Final Rules will become effective 125 days after publication in the Federal Register. Compliance with the structured data requirements, which require tagging of information disclosed pursuant to new subpart 1600 of Regulation S-K in Inline XBRL, will be required 490 days after publication of the rules in the Federal Register.

I. Overview

There are four key components of the Final Rules:

Disclosure and Investor Protection. The Final Rules impose specific disclosure requirements with respect to, among other things, compensation paid to sponsors, potential conflicts of interest, shareholder dilution, and the fairness of the business combination, for both the SPAC IPOs and de‑SPAC transactions;
Business Combinations Involving Shell Companies. Under the Final Rules, the Commission will deem a business combination transaction involving a reporting shell company and a private operating company as a “sale” of securities under the Securities Act of 1933, as amended (the “Securities Act”), amend the financial statement requirements applicable to transactions involving shell companies, and amend the current “blank check company” definition to make clear that SPACs cannot rely on the safe harbor provision under the Private Securities Litigation Reform Act of 1995, as amended (the “PSLRA”) when marketing a de-SPAC transaction;
Projections. The Final Rules amend the Commission’s guidance on the presentation of projections in any filings with the Commission (not only on de-SPAC transactions, but affecting all projections filed with the Commission) and adds new guidance only for de-SPAC transactions, in both instances to address the reliability of such projections; and
Status of SPACs under the Investment Company Act of 1940. The Proposed Rules included a safe harbor that qualifying SPACs could have used to avoid registering as investment companies under the Investment Company Act. The Final Rules do not include a safe harbor, and instead, the Commission takes the position that SPACs should consider investment company status in light of the facts and circumstances and provides further guidance on what actions might cause a SPAC to fall into the investment company definition.

We provide below our key takeaways, a summary of the Final Rules and links to Commissioner statements regarding the Final Rules.

II. Key Takeaways

Below are the key takeaways from the Final Rules:

Timing. Although the Final Rules will not be in effect for about 4 months, existing SPACs and their targets should expect to receive comments from the Commission staff along the broader lines of the Final Rules. SPACs and their targets also should consider the extent to which they will want to comply voluntarily with certain of the Final Rules, especially those focused on financial statement requirements and enhanced disclosures.
Conforming SPACs to Traditional IPOs. The Final Rules go to great lengths to contrast the current SPAC regulatory regime against the one applicable to traditional IPOs and to “level” the playing field between the two. Closer alignment of the two regimes may reduce some potential benefits of a de-SPAC transaction (g., availability of alternative financing sources and expedited path to becoming a public company) while also exposing the SPAC, its target and their advisors to additional liability.
No PSLRA Protection. The PSLRA safe harbor against a private right of action for forward-looking statements is not available in, among other transactions, an offering by a blank check company or a “penny stock” issuer, or in an initial public offering. Some market participants believed the PSLRA safe harbor was otherwise available in de-SPAC transactions when a SPAC is not a blank check company under Rule 419. Under the Final Rules, the Commission adopts a new definition of “blank check company” for purposes of the PSLRA making clear that SPACs may no longer rely on the safe harbor provision under the PSLRA as it relates to the use of projections and other forward-looking statements when marketing a de-SPAC The lack of the PSLRA safe harbor, especially coupled with enhanced disclosure requirements relating to projections under the Final Rules, may lead to changes in the presentation of projections and assumptions, or the abandonment of projections in a SPAC board’s evaluation of a potential de-SPAC target, which will further undermine the viability of the de-SPAC transaction as an alternative to traditional IPOs for target companies that do not have a lengthy operating history.
Co-Registrant Liability. The Final Rules impose Section 11 liability on target companies and their officers and directors as co-registrants under Form S-4 and Form F-4 Liability will now extend to both SPAC and target company disclosures contained in such filings. Target companies assessing a de-SPAC transaction should now consider whether its current director and officer liability insurance is sufficient prior to the filing of an initial Form S-4 or Form F-4 for its de-SPAC transaction given the potential for increased liability related to the target’s disclosures.
Extension of Current Disclosure Guidance (Projections, Dilution, Sponsor, Conflicts). The Final Rules codify current guidance and practice by the Commission, and require additional information and specificity (in some cases, beyond current rules and guidance). Nonetheless, some of the prescriptive rulemakings around enhanced disclosures—including required financial statements, disclosure of sources of dilution, sponsor control and relationships, and potential conflicts of interest—should not be particularly novel for practitioners as many of these requirements are based on existing rules and guidance.
Board Determination. If required by the law of the jurisdiction of a SPAC’s organization, a SPAC must disclose its board’s determination whether the de-SPAC transaction is advisable and in the best interests of the SPAC and its shareholders and discuss the material factors considered in making the determination. The Final Rules specify that such factors must include, without limitation and to the extent considered, the valuation of the target company, financial projections relied upon by the board of directors, the terms of any financing materially related to the de-SPAC transaction, the dilutive impact of the transaction, and any fairness opinion. While the Proposed Rules would have required disclosure of the SPAC board’s reasonable belief as to the fairness of a de-SPAC transaction and related financings to the SPAC’s shareholders when approving a de-SPAC transaction, that requirement is not included in the Final Rules. Coupled with the enhanced disclosure requirements related to any projections used in a de-SPAC transaction, the Final Rules may result in SPACs not using a target company’s projections to assess a transaction or for marketing purposes, and SPACs may decide against obtaining fairness opinions in connection with de-SPAC transactions.
Underwriter Liability. The Commission did not adopt its proposal of extending underwriter status (and resulting potential liability) in the de-SPAC transaction to those underwriters to SPAC IPOs involved, directly or indirectly, in the de-SPAC transaction (g., advisory services, placement agent services, and other activities related to the de-SPAC transaction would all be considered direct and indirect activities). Rather, the Commission noted in the Final Rules that it will apply the terms “distribution” and “underwriter” “broadly and flexibly” in light of the facts and circumstances of a particular transaction, including a de-SPAC transaction. The introduction of proposed underwriter liability in the Proposed Rules and pivot back to statutory interpretation creates further ambiguity and uncertainty on a going-forward basis. 2022 and 2023 saw a dramatic pullback by financial advisors in their participation in the SPAC market, and we anticipate that certain financial advisors will choose not to participate in SPAC IPOs and de-SPAC transactions as a result of the ambiguity under the Final Rules.
Investment Company Act Safe Harbor. The Commission did not adopt its proposed new safe harbor for SPACs under the Investment Company Act, which would have exempted SPACs from being treated as an “investment company” if the SPAC met certain subjective criteria, related to, among other things, the nature and management of the assets held by the SPAC and the SPAC’s general purpose. Similar to its approach with respect to SPAC IPO underwriter liability, the Final Rules opt to provide general guidance regarding activities that could cause a SPAC to be an “investment company.” As a result, SPACs should carefully assess and monitor their activities, and consider changing their operations if necessary to bring them into compliance with the Investment Company Act.

III. Summary of Final Rules

1. New Subpart 1600 of Regulation S-K

The Final Rules create a new Subpart 1600 of Regulation S-K solely related to SPAC IPOs and de-SPAC transactions. Among other things, this new Subpart 1600 prescribes specific disclosure requirements with respect to the sponsor, potential conflicts of interest, potential shareholder dilution, and fairness to shareholders.

Sponsor, Affiliates, and Promoters

To provide investors with a more complete understanding of the role of SPAC sponsors, affiliates, and promoters,[6] the Commission has adopted Item 1603(a) of Regulation S-K, to require:

Experience. Description of the experience, material roles, and responsibilities of sponsors, affiliates, and promoters.
Arrangements. Discussion of any agreement, arrangement, or understanding (i) between the sponsor and the SPAC, its officers, directors, or affiliates, in determining whether to proceed with a de-SPAC transaction and (ii) regarding the redemption of outstanding securities.
Sponsor Control. Discussion of the controlling persons of the sponsor and any persons who have direct or indirect material interests in the sponsor. The Commission declined to adopt the proposed requirement that SPACs also provide an organizational chart that shows the relationship between the SPAC, the sponsor, and the sponsor’s affiliates.
Lock-Ups. A table describing the material terms of any lock-up agreements with the sponsor and its affiliates.
Compensation. Discussion of the nature and amounts of all compensation (including securities issued by the SPAC) that has been or will be awarded to, earned by, or paid to the sponsor, its affiliates, and any promoters for all services rendered in all capacities to the SPAC and its affiliates, as well as the nature and amounts of any reimbursements to be paid to the sponsor, its affiliates, and any promoters upon the completion of a de-SPAC

Potential Conflicts of Interest

To provide investors with a more complete understanding of the potential conflicts of interest between (i) any SPAC sponsor or affiliate, target company officers and directors, or the SPAC’s officers, directors, or promoters, and (ii) unaffiliated security holders of the SPAC, the Commission adopted a new Item 1603(b) of Regulation S-K. This new Item includes a discussion of conflicts arising as a result of a determination to proceed with a de-SPAC transaction and from the manner in which a SPAC compensates the sponsor or the SPAC’s executive officers and directors, or the manner in which the sponsor compensates its own executive officers and directors.

Relatedly, Item 1603(c) of Regulation S-K will require disclosure of the fiduciary duties that each officer and director of a SPAC owes to other companies.

Sources of Dilution

In an effort to conform and enhance disclosure relating to dilution in SPAC IPOs and de-SPAC transactions, the Commission has adopted Items 1602 and 1604 of Regulation S-K, respectively.

IPO Dilution Disclosure. In providing disclosure pursuant to Item 506, SPAC disclosure previously estimated dilution as a function of the difference between the initial public offering price and the pro forma net tangible book value per share after the offering, often including an assumption of the maximum number of shares eligible for redemption in a de-SPAC transaction. The Final Rules will now require additional granularity on the prospectus cover page, requiring SPACs to present redemption scenarios in quartiles up to the maximum redemption scenario. In addition to changes to the cover page, the Final Rules also supplement Item 506 disclosure by requiring a description of material potential sources of future dilution following a SPAC’s initial public offering, as well as tabular disclosure of the amount of potential future dilution from the public offering price that will be absorbed by non-redeeming SPAC shareholders, to the extent quantifiable.
De-SPAC Dilution Disclosure. In addition to disclosure at the IPO stage of a SPAC’s lifecycle, the Final Rules require additional disclosure regarding material potential sources of dilution as a result of the de-SPAC As seen in comment letters issued by the Commission following the release of the Proposed Rules, the Commission has requested additional granularity with respect to post-closing pro forma ownership disclosure, often requiring the disclosure of various redemption thresholds and the effects of potential sources of dilution. The Final Rules now codify this practice by requiring disclosure in a tabular format that includes intervals representing selected potential redemption levels that may occur across a reasonably likely range of outcomes. The Final Rules do not prescribe specific redemption levels for which dilution information must be provided, but looking at the SPAC IPO dilution requirements (as discussed above), quartile disclosure up to the maximum redemption scenario may be acceptable.

Board Determination Regarding De-SPAC Transaction

Under Item 1606, if the law of the jurisdiction of the SPAC’s organization requires the SPAC’s board of directors to determine whether the de-SPAC transaction is advisable and in the best interests of the SPAC and its shareholders, then the SPAC will be required to disclose that determination. Item 1606 of Regulation S-K will also require a discussion, of the material factors considered in making that determination. This is one of the few areas of the Final Rule where the Commission declined to adopt a more stringent standard, with the initial proposed rule creating a potential “backdoor” opinion requirement by asking that a board of directors affirmatively state whether it reasonably believes a de-SPAC transaction, including any related financing, was fair to the unaffiliated securityholders of the SPAC.

Relatedly, if any director voted against, or abstained from voting on, approval of the de-SPAC transaction or any related financing transaction, SPACs would be required to identify the director, and indicate, if known, after making reasonable inquiry, the reasons for the vote against the transaction or abstention.

2. Aligning De-SPAC Transactions with IPOs

Target Company as Co-Registrant

Under the current rules, only the SPAC and its officers and directors are required to sign the registration statement and are liable for material misstatements or omissions. The Final Rules require the target company to be treated as a co-registrant with the SPAC when a Form S-4 or Form F-4 registration statement is filed by the SPAC in connection with a de-SPAC transaction.[7] Registrant status for a target company and its officers and directors will result in such parties being liable for material misstatements or omissions pursuant to Section 11 of the Securities Act. Under the Final Rules, target companies and their officers and directors will be liable with respect to their own material misstatements or omissions, as well as any material misstatements or omissions made by the SPAC or its officers and directors. As a result, the Final Rules seeks to further incentivize target companies and SPACs to be diligent in monitoring each other’s disclosure.

Smaller Reporting Company Status

Currently, de-SPAC companies are able to avail themselves – as almost all SPACs have done since 2016[8] – of the smaller reporting company rules for at least one year following the de-SPAC transaction (and most SPACs would still retain this status at the time of the de-SPAC transaction when the SPAC is the legal acquirer of the target company). The “smaller reporting company” status benefits the combined company after the de-SPAC transaction by availing it of scaled disclosure and other accommodations as it adjusts to being a public company.

Citing the disparate treatment between traditional IPO companies and de-SPAC companies (the former having to determine smaller reporting company status at the time it files its initial registration statement and the latter retaining the SPAC’s smaller reporting company status until the next annual determination date), the Final Rules require de-SPAC companies to determine compliance with the public float threshold (i.e., public float of (i) less than $250 million, or (ii) in addition to annual revenues less than $100 million, less than $700 million or no public float)[9] prior to the time it makes its first filing with the Commission (other than the Form 8-K filed with Form 10 information).

The public float must be measured as of a date within four business days after the consummation of the de-SPAC transaction. The revenue threshold must be determined by using the annual revenues of the target company as of the most recently completed fiscal year for which audited financial statements are available. The de-SPAC company must reflect its re-determination in its first periodic report due after a 45-day period following the consummation of the de-SPAC transaction.

Target companies will need to consider the burdens of additional reporting requirements in light of the potential of not being able to qualify as a smaller reporting company following their de-SPAC transactions.

PSLRA Safe Harbor

The PSLRA provides a safe harbor for forward-looking statements under the Securities Act and the Securities Exchange Act of 1934, as amended (the “Exchange Act”), under which a company is protected from liability for forward-looking statements in any private right of action under the Securities Act or Exchange Act when, among other things, the forward-looking statement is identified as such and is accompanied by meaningful cautionary statements.

The safe harbor, however, is not available when the forward looking statement is made in connection with an offering by a “blank check company,” a company that is (i) a development stage company with no specific business plan or purpose or has indicated that its business plan is to engage in a merger or acquisition with an unidentified company or companies, or other entity or person, and (ii) is issuing “penny stock.”[10]

Because of the penny stock requirement, many practitioners have considered SPACs to be afforded protection under the PSLRA safe harbor as it does not otherwise meet the second prong of the definition of blank check company for purposes of the PSLRA safe harbor. The Final Rules will adopt a new definition of “blank check company” for purposes of the PSLRA to remove the penny stock requirement, thus effectively removing a SPAC’s ability to qualify for the PSLRA safe harbor provision for the de-SPAC transaction.

This inability to rely on the PSLRA is coupled with the Final Rules’ addition of new and modified projections disclosure requirements (as further discussed below). It remains unclear whether the application of the Final Rules will lead to changes in the use of projections and assumptions (especially considering the current environment where market participants, investors, and financiers have come to expect detailed projections disclosure, similar to what is used in public merger and acquisitions (“M&A”) transactions), or the abandonment of projections in assessing and marketing a de-SPAC transaction.

Underwriter Status and Liability

Historically, Section 11 and Section 12(a)(2) of the Securities Act[11] have imposed underwriter liability on underwriters of a SPAC’s IPO. The Commission declined to adopt its proposal to establish that a de-SPAC transaction would constitute a “distribution” under applicable underwriter regulations, which would have automatically extended underwriter liability to the SPAC IPO underwriter if it engaged in certain de-SPAC activities or compensation arrangements.

Instead, the Final Rules provide general guidance regarding statutory underwriter status, following its “longstanding practice of applying the statutory terms “distribution” and “underwriter” broadly and flexibly, as the facts and circumstances of any transaction may warrant.”[12] The Commission may find a “statutory underwriter” where someone is selling for the issuer or participating in the distribution of securities in the combined company to the SPAC’s investors and the broader public, even though it may not be named as an underwriter in any given offering or may not be engaged in activities typical of a named underwriter in traditional capital raising.[13]

The Commission’s extensive broad interpretation of the concept of “statutory underwriter,” coupled with the traditional “due diligence” defenses of underwriters,[14] suggests that SPACs and target companies should expect extensive diligence requests from financial institutions, advisors, and their counsel in connection with a de-SPAC transaction, requests from investment banks that advisors to a SPAC and its target provide negative assurance and comfort letters in connection with the de-SPAC transaction, and other related changes to the de-SPAC transaction process that add complexity, time, and cost.

3. Business Combinations Involving Shell Companies

The Commission’s concern related to private companies becoming U.S. public companies via de-SPAC transactions is substantially related to the perceived opportunity for such private companies to avoid “Securities Act registration and the related disclosures which are intended to protect investors.”[15]

Rule 145a

Based on the structure of certain de-SPAC transactions, the Commission expressed concern that, unlike investors in transaction structures in which the Securities Act applies (and a registration statement would be filed, absent an exemption), investors in reporting shell companies may not always receive the disclosures and other protection afforded by the Securities Act at the time the change in the nature of their investment occurs, due to the business combination involving another entity that is not a shell company.

Rule 145a intends to address the issue by deeming any direct or indirect business combination of a reporting shell company (other than a business combination related shell company) involving another entity that is not a shell company constitutes “a sale of securities to the reporting shell company’s shareholders.”[16] By deeming such transaction to be a “sale” of securities for the purposes of the Securities Act, the Final Rule is intended to address potential disparities in the disclosure and liability protections available to shareholders of reporting shell companies, depending on the transaction structure deployed.

Rule 145a defines a reporting shell company as a company (other than an asset-backed issuer as defined in Item 1101(b) of Regulation AB) that has:

no or nominal operations;
either:
- no or nominal assets;
- assets consisting solely of cash and cash equivalents; or
- assets consisting of any amount of cash and cash equivalents and nominal other assets; and
an obligation to file reports under Section 13 or Section 15(d) of the Exchange Act.

The Final Rule notes that the sales covered by Rule 145a will not be covered by the exemption provided under Section 3(a)(9) of the Securities Act, because the exchange of securities would not be exclusively with the reporting shell company’s existing security holders, but also would include the target company’s existing security holders.

We would also note that this provision has broader market implications as it would apply to all reporting shell companies (other than a “business combination related shell company,” as defined in Rule 405 under the Securities Act and Rule 12b-2 under the Exchange Act), and not just SPAC transactions.

Financial Statement Requirements in Business Combination Transactions Involving Shell Companies

The Final Rule amends the financial statements required to be provided in a business combination with an intention to bridge the gap between such financial statements and the financial statements required to be provided in an IPO. The Commission views such Final Rule as simply codifying “current staff guidance for transactions involving shell companies.”[17] While the below information is presented in the context of a de-SPAC transaction, we would note that these requirements will apply to all shell companies (other than a “business combination related shell company,” as defined in Rule 405 under the Securities Act and Rule 12b-2 under the Exchange Act), and not just SPAC transactions.

Number of Years of Financial Statements

Rule 15-01(b) will require a registration statement for a de-SPAC transaction where a business is combining with a shell company registrant to include the same financial statements for that business as would be required in a Securities Act registration statement for an IPO of that business.

Audit Requirements

Rule 15-01(a) will require the examination of the financial statements of a business that is or will be a predecessor to a shell company to be audited by an independent accountant in accordance with the standards of the Public Company Accounting Oversight Board (“PCAOB”) for the purpose of expressing an opinion, to the same extent as a registrant would be audited for an IPO, effectively codifying the staff’s existing guidance.[18]

Age of Financial Statements

Rule 15-01(c) will provide for the age of the financial statements of a business involved in a business combination with a shell company to be based on whether such private company would qualify as a smaller reporting company in a traditional IPO process, ultimately aligning with the financial statement requirements in a traditional IPO.

Acquisitions of a Business or Real Estate Operation by a Predecessor

The Commission is implementing a series of rules intended to clarify when companies should disclose financial statements of businesses acquired by SPAC targets or where such business are probable of being acquired by SPAC targets. Rule 15-01(d) will address situations where financial statements of other businesses (other than the predecessor) that have been acquired or are probable to be acquired should be included in a registration statement or proxy/information statement for a de-SPAC transaction. The Final Rule will require application of Rule 3-05 and Rule 8-04 (or Rule 3-14 and Rule 8-06 with respect to real estate operation) of Regulation S-X to acquisitions by a predecessor to the shell company, which the staff views as codifying its existing guidance.

Amendments to the significance tests in Rule 1-02(w) of Regulation S-X will require the significance of the acquisition target of the private target in a de-SPAC transaction to be calculated using the SPAC’s target’s financial information, rather than the SPAC’s financial information.

In addition, Rule 15-01(d)(2) will require the de-SPAC company to file the financial statements of a recently acquired business, that is not or will not be its predecessor pursuant to Rule 3-05(b)(4)(i) in an Item 2.01(f) of Form 8-K filed in connection with the closing of the de-SPAC transaction where such financial statements were omitted from the registration statement for the de-SPAC transaction, to the extent the significance of the acquisition is greater than 20% but less than 50%.

Financial Statements of a Shell Company Registrant after the Combination with Predecessor

Rule 15-01(e) allows a registrant to exclude the financial statements of a SPAC for the period prior to the de-SPAC transaction if (i) all financial statements of the SPAC have been filed for all required periods through the de-SPAC transaction, and (ii) the financial statements of the registrant include the period on which the de-SPAC transaction was consummated. The Final Rule eliminates any distinction between a de-SPAC structured as a forward acquisition or a reverse recapitalization.

Other Amendments

In addition, the Final Rules are also addressing the following related amendments:

amendment of Item 2.01(f) of Form 8-K to (i) refer to “predecessor,” rather than “registrant,” to clarify that the information required to be provided “relates to the acquired business and for periods prior to consummation of the acquisition”[19] and (ii) establish that registrant need not present audited financial statements for predecessor for any period prior to the earliest audited period if, at the time of filing, the predecessor meets the conditions of an “emerging growth company”; and
amendment of Rules 3-01, 8-02, and 10-01(a)(1) of Regulation S-X to expressly refer to the balance sheet of the predecessors, consistent with the provision regarding income statements.

4. Enhanced Projections Disclosure

Disclosure of financial projections is not expressly required by the U.S. federal securities laws; however, it has been common practice for SPACs to use projections of the target company and post-de-SPAC company in its assessment of a proposed de-SPAC transaction, its investor presentations, and soliciting material once a definitive agreement is executed.

The Final Rules amend existing Commission guidance under Item 10(b) of Regulation S-K with respect to the use of any projections of future economic performance for any registrant and persons other than the registrant for any filings subject to Regulation S-K, as well as to add new, supplemental disclosure requirements applying only to de-SPAC transactions, under the new Item 1609 of Regulation S‑K.

Amended Item 10(b) of Regulation S-K

Under Item 10(b) of Regulation S-K, management may present projections regarding a registrant’s future performance, provided that (i) there is a reasonable and good faith basis for such projections, and (ii) they include disclosure of the assumptions underlying the projections and the limitations of such projections, and the presentation and format of such projections. Citing concerns of instances where target companies have disclosed projections that lack a reasonable basis,[20] the Final Rules amend Item 10(b) of Regulation S-K as follows:[21]

Clarification of Applicability to Target Company. Item 10(b) of Regulation S-K currently refers to projections regarding the “registrant.” The Final Rule will modify the language to clarify that the guidance therein applies to any projections of future economic performance of both the registrant and persons other than the registrant (which would include a target company in a de-SPAC transaction), that are included in the registrant’s Commission filings.
Historical Results. Disclosure of projected measures that are not based on historical financial results or operational history should be clearly distinguished from projected measures that are based on historical financial results or operational history.
Prominence of Historical Results. Similar to non-GAAP presentation, the Commission will consider it misleading to present projections that are based on historical financial results or operational history without presenting such historical measure or operational history with equal or greater prominence.
Non-GAAP Measures. Presentation of projections that include a non-GAAP financial measure should include a clear definition or explanation of the measure, a description of the GAAP financial measure to which it is most closely related, and an explanation why the non-GAAP financial measure was used instead of a GAAP measure. The Final Rule notes that the reference to the nearest GAAP measure called for by amended Item 10(b) will not require a reconciliation to that GAAP measure; however, the need to provide a GAAP reconciliation for any non-GAAP financial measures will continue to be governed by Regulation G and Item 10(e) of Regulation S-K.

Important to note that the guidance in the amended Item 10(b) applies to all projections of future economic performance of any registrant and persons other than the registrant that are included in the registrant’s filings with the Commission (not only to de-SPAC transactions).

Proposed Item 1609 of Regulation S-K

In light of the traditional SPAC sponsor compensation structure (i.e., compensation in the form of post-closing equity) and the potential incentives and overall dynamics of a de-SPAC transaction, the Commission has adopted a new rule specific to de-SPAC transactions that will supplement the amendments to Item 10(b) of Regulation S-K (as discussed above). Specifically, the new Item 1609 of Regulation S-K that will require SPACs to provide the accompanying disclosures to financial projections:

Purpose of Projections. Any projection disclosed by the registrant in the filing (or any exhibit thereto) must include disclosure regarding (i) the purpose for which the projection was prepared, and (ii) the party that prepared the projection.
Bases and Assumptions. Disclosure will include all material bases of the disclosed projections and all material assumptions underlying the projections, and any material factors that may materially affect such assumptions. This would include a discussion of any factors that may cause the assumptions to be no longer reasonable, material growth or reduction rates or discount rates used in preparing the projections, and the reasons for selecting such growth or reduction rates or discount rates[22].
Views of Management and the Board. Disclosure must discuss whether or not the projections disclosed continue to reflect the views of the board of directors (or similar governing body) and/or management of the SPAC or target company, as applicable, as of the most recent practicable date prior to the date of the disclosure document required to be disseminated to security holders. If the projections do not continue to reflect the views of the board of directors (or similar governing body) and/or management, the SPAC should include a discussion of the purpose of disclosing the projections and the reasons for any continued reliance by the management or board on the projections.

Similar to the amendments to Item 10(b), the first two requirements summarized above should not come as a particular surprise to existing SPACs and their counsel as projections disclosure has been a significant area of scrutiny by the Commission in the registration statement and proxy statement review process.

We note, however, that the requirement under Item 1609 to add disclosure as to management’s and/or the board’s current views likely will require additional disclosure beyond what has been typical market practice. In particular, projections disclosure in a registration statement or proxy statement is often made in the context of a historical lookback to the projections in place at the time the board of directors of the SPAC assessed whether to enter into a de-SPAC transaction with the target company. These projections typically are not updated with newer data during the pendency of the transaction since the purpose of such disclosure is to inform investors of the board’s rationale for approving the transaction. Item 1609 does not explicitly require the updating of projections, but it does require the parties to disclose whether the included projections reflect the view of the SPAC and the target company as of the date of filing. Moreover, the potential to provide revised projections, coupled with obligations to disclose management’s and board’s continuing views, may prove challenging disclosure to be made between the signing of a business combination agreement and the filing of a registration statement or proxy statement and during the review period for such registration statement or proxy statement.

5. Status of SPACs under the Investment Company Act of 1940

Because pre-transaction SPACs are not engaged in any meaningful business other than investing their IPO proceeds, there has been uncertainty regarding whether they are “investment companies” under the Investment Company Act of 1940.[23] The Proposed Rules included a safe harbor that would have excluded certain SPACs from being defined as investment companies; however, the Commission instead set forth in the Final Rules facts and circumstances guidance relevant to investment-company classification using the five Tonopah factors employed in the standard analysis.[24]

Nature of SPAC Assets and Income. If a SPAC were to invest in investment securities like corporate bonds—especially if those investments exceeded 40% of the SPAC’s assets—it would likely be an investment company. (Assets commonly held by SPACs today, such as U.S. government securities, money market funds, and cash, likely would not count heavily toward investment-company status.) Similarly, if a SPAC were to derive most of its income from investment securities, it would likely be an investment company.
Management Activities. If a SPAC were to hold investment securities while its managers did not actively seek a de-SPAC transaction, or while its managers actively managed those securities to achieve investment returns, the SPAC would more likely be an investment company. Relatedly, SPAC sponsors should be aware that they may be classified as “investment advisors” under the Investment Advisors Act of 1940.[25]
Duration. The longer a SPAC takes to achieve a de-SPAC transaction, the more likely its investment-company-like characteristics qualify it as an investment company. The Commission identifies two timelines as relevant for this analysis. Rule 3a-2 under the Investment Company Act provides a one-year safe harbor for “transient investment companies.” And blank-check companies under Investment Company Act Rule 419 are not investment companies because their duration is limited to 18 months. Because these timelines reflect the Commission’s thinking in similar circumstances, though outside of the SPAC context, SPACs operating beyond 12 or 18 months should assess whether they otherwise qualify as investment companies.
Holding Out. A SPAC that markets itself like an investment company is likely to be considered to be an investment company. For example, a SPAC that advertises itself an alternative to mutual funds is holding itself out as an investment company.
Merging with an Investment Company. A SPAC that proposes to engage in a de-SPAC transaction with an investment company is likely to itself be an investment company.

SPACs should carefully assess all the facts and circumstances to determine whether they must register as investment companies. In particular, they should pay attention to the 12- and 18-month thresholds and whether investment securities account for most of their assets, income, or efforts.

IV. Conclusions

These Final Rules come as no surprise to SPAC market participants. Indeed, a comparison of existing de-SPAC transaction disclosure practices with many of the Final Rules merely evidences a codification of what the market has already adopted and anticipated over the nearly twenty-two month period since the Proposed Rules were first released. While the market appears to have already anticipated some of these changes, it remains to be seen whether the Final Rules will have any meaningful effect on current market conditions, as evidenced by the substantial retraction in the SPAC market over the last year, or if the SPAC market itself has naturally run its course in light of broader macro-economic trends.

Although we may view many of the Final Rules as reiterating the status quo, the Commission’s efforts here are noteworthy in that the Final Rules also touch upon broader market considerations. For example, the Final Rules’ facts and circumstances guidance with respect to the applicability of “underwriter” or “investment company” status, and the changes to Item 10(b) related to projections disclosure, are not limited solely to SPACs and should be considered relevant to other public market participants and advisors in similar and adjacent circumstances. As a result, we encourage our clients and public market participants to reach out to us to see how this rulemaking may affect their going-forward operations and business plans.

V. Commissioner Statements

For the published statements of the Commissioners, please see the following links:

Commissioner Jaime Lizárraga

Commissioner Caroline A. Crenshaw

Commissioner Mark T. Uyeda (Dissenting)

Commissioner Hester M. Peirce (Dissenting)

[1] U.S. Securities and Exchange Commission, Special Purpose Acquisition Companies, Shell Companies, and Projections, Exchange Act Release No. 99418 (January 24, 2024) (“Final Rules”), available at https://www.sec.gov/files/rules/final/2024/33-11265.pdf.

[2] For our discussion of the proposed rules, see Gibson, Dunn & Crutcher LLP, SEC Proposes Rules to Align SPACs More Closely with IPOs (April 6, 2022), available at https://www.gibsondunn.com/sec-proposes-rules-to-align-spacs-more-closely-with-ipos/.

[3] See Gibson, Dunn & Crutcher LLP, SEC Staff Issues Cautionary Guidance Related to Business Combinations with SPACs (April 6, 2021), link here (addressing certain accounting, financial reporting and governance issues related to SPACs and the combined company following a SPAC business combination), see also Gibson, Dunn & Crutcher LLP, SEC Division of Corporation Finance Issues Interpretations Addressed to SPACs’ Business Combinations (March 24, 2022), link here (discussing new Compliance and Disclosure Interpretations that addressed certain issues related to the business combination process of de-SPAC transactions), and Gibson, Dunn & Crutcher LLP, SEC Publishes C&DIs Addressing Tender Offer Issues (March 17, 2023), link here (discussing new Compliance and Disclosure Interpretations that addressed various tender offer issues in connection with de-SPAC transactions).

[4] U.S. Securities and Exchange Commission, Press Release (2024-8), SEC Adopts Rules to Enhance Investor Protections Relating to SPACs, Shell Companies, and Projections (January 24, 2024), available at https://www.sec.gov/news/press-release/2024-8.

[5] Id.

[6] The term “promoter” is defined in Securities Act Rule 405 and Exchange Act Rule 12b-2.

[7] Under Section 6(a) of the Securities Act, each “issuer” must sign a Securities Act registration statement. The Securities Act broadly defines the term “issuer” to include every person who issues or proposes to issue any securities.

[8] Final Rules, p. 220.

[9] 17 CFR 229.10(f)(1).

[10] The term “penny stock” is defined in 17 CFR 240.3a51-1.

[11] Section 11 of the Securities Act imposes on underwriters, among other parties identified in Section 11(a), civil liability for any part of the registration statement, at effectiveness, which contained an untrue statement of a material fact or omitted to state a material fact required to be stated therein or necessary to make the statements therein not misleading, to any person acquiring such security. Further, Section 12(a)(2) imposes liability upon anyone, including underwriters, who offers or sells a security, by means of a prospectus or oral communication, which includes an untrue statement of a material fact or omits to state a material fact necessary in order to make the statements, in the light of the circumstances under which they were made, not misleading, to any person purchasing such security from them.

[12] Final Rules, p. 284

[13] Id., p. 285

[14] Although the Securities Act does not expressly require an underwriter to conduct a due diligence investigation, the Final Rules reiterates the Commission’s long-standing view that underwriters nonetheless have an affirmative obligation to conduct reasonable due diligence. Final Rules, p. 288. This was also mentioned by the Commission in fn. 184 of the Proposed Rule (citing In re Charles E. Bailey & Co., 35 S.E.C. 33, at 41 (Mar. 25, 1953) (“[An underwriter] owe[s] a duty to the investing public to exercise a degree of care reasonable under the circumstances of th[e] offering to assure the substantial accuracy of representations made in the prospectus and other sales literature.”); In re Brown, Barton & Engel, 41 SEC 59, at 64 (June 8, 1962) (“[I]n undertaking a distribution . . . [the underwriter] had a responsibility to make a reasonable investigation to assure [itself] that there was a basis for the representations they made and that a fair picture, including adverse as well as favorable factors, was presented to investors.”); In the Matter of the Richmond Corp., infra note 185 (“It is a well-established practice, and a standard of the business, for underwriters to exercise diligence and care in examining into an issuer’s business and the accuracy and adequacy of the information contained in the registration statement . . . The underwriter who does not make a reasonable investigation is derelict in his responsibilities to deal fairly with the investing public.”)).

[15] Final Rules, p. 290.

[16] Id., p. 290-91.

[17] Id., p. 112 (citing the staff guidance under the Division of Corporation Finance’s Financial Reporting Manual).

[18] Id., p. 112 (citing the staff guidance under the Division of Corporation Finance’s Financial Reporting Manual at Section 4110.5).

[19] Id., p. 339.

[20] For example, the Commission cites to recent enforcement actions against SPACs, alleging the use of baseless or unsupported projections about future revenues and the use of materially misleading underlying financial projections. See, e.g., In the Matter of Momentus, Inc., et al., Exch. Act Rel. No. 34-92391 (July 13, 2021); SEC vs. Hurgin, et al., Case No. 1:19-cv05705 (S.D.N.Y., filed June 18, 2019); In the Matter of Benjamin H. Gordon, Exch. Act Rel. No. 34-86164 (June 20, 2019); and SEC vs. Milton, Case No. 1:21-cv-6445 (S.D.N.Y., filed July 29, 2021).

[21] The Final Rules made three technical revisions to item 10(b). The first two changes are to enhance clarity and avoid potential ambiguity. The third revision is to create consistency with the terms used in existing Item 10(e)(1)(i)(A) of Regulation S-K. In Item 10(b)(2)(i), they replaced the term “foregoing measures of income” with the term “foregoing measurers of income (loss).” In Item 10(b)(2)(iii), they replaced the term “historical financial measure” with the term “historical financial results.” In Item 10(b)(2)(iv), they revised the item to require a description of the GAAP financial measure “most directly comparable” to the non-GAAP measure, rather than “mostly closely related.”

[22] Two examples of “discount rates” are: (1) the weighted average cost of capital used to discount to present value the future cash flows over the period of years projected in a discounted cash flow analysis and (2) the rate applied to the terminal value in a discounted cash flow analysis to calculate its present value.

[23] See 15 U.S.C. §§ 80a-3(a)(1)(A), (a)(1)(C).

[24] See In the Matter of Tonopah Mining Co., 26 S.E.C. 426 (July 21, 1947).

[25] See 15 U.S.C. § 80b-2(a)(11).

__________

The following Gibson Dunn attorneys assisted in preparing this update: Evan D’Amico, Gerry Spedale, James Springer, and Rodrigo Surcan.

Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding these developments. For further information, please contact the Gibson Dunn lawyer with whom you usually work, any member of the firm’s Capital Markets, Mergers and Acquisitions, Securities Enforcement, or Securities Regulation and Corporate Governance practice groups, or the following practice leaders and authors:

Evan M. D’Amico – Washington, D.C. (+1 202.887.3613, edamico@gibsondunn.com)
Gerry Spedale – Houston (+1 346.718.6888, gspedale@gibsondunn.com)
James O. Springer – Washington, D.C. (+1 202.887.3516, jspringer@gibsondunn.com)
Rodrigo Surcan – New York (+1 212.351.5329, rsurcan@gibsondunn.com)

Mergers and Acquisitions:
Robert B. Little – Dallas (+1 214.698.3260, rlittle@gibsondunn.com)
Saee Muzumdar – New York (+1 212.351.3966, smuzumdar@gibsondunn.com)

Capital Markets:
Andrew L. Fabens – New York (+1 212.351.4034, afabens@gibsondunn.com)
Hillary H. Holmes – Houston (+1 346.718.6602, hholmes@gibsondunn.com)
Stewart L. McDowell – San Francisco (+1 415.393.8322, smcdowell@gibsondunn.com)
Peter W. Wardle – Los Angeles (+1 213.229.7242, pwardle@gibsondunn.com)

Securities Regulation and Corporate Governance:
Elizabeth Ising – Washington, D.C. (+1 202.955.8287, eising@gibsondunn.com)
James J. Moloney – Orange County (+1 949.451.4343, jmoloney@gibsondunn.com)
Lori Zyskowski – New York (+1 212.351.2309, lzyskowski@gibsondunn.com)
Brian J. Lane – Washington, D.C. (+1 202.887.3646, blane@gibsondunn.com)
Ronald O. Mueller – Washington, D.C. (+1 202.955.8671, rmueller@gibsondunn.com)
Thomas J. Kim – Washington, D.C. (+1 202.887.3550, tkim@gibsondunn.com)
Mike Titera – Orange County (+1 949.451.4365, mtitera@gibsondunn.com)
Aaron Briggs – San Francisco (+1 415.393.8297, abriggs@gibsondunn.com)
Julia Lapitskaya – New York (+1 212.351.2354, jlapitskaya@gibsondunn.com)

An analysis of important trends and developments in AML regulation and enforcement, including key priorities emphasized by enforcers, notable enforcement actions and prosecutions, significant judicial opinions, and an important legislative development.

U.S. enforcers increasingly rely on the anti-money laundering (“AML”) statutes to police a wide variety of conduct. Broadly speaking, there are two types of AML statutes: (1) statutes that prohibit certain conduct (for example, knowingly engaging in a financial transaction with the intent to conceal unlawful activity), or (2) statutes that impose affirmative obligations on certain types of businesses to engage in identification and reporting of suspicious financial activity (for example, the Bank Secrecy Act (“BSA”)).

In this alert, we analyze the most important trends and developments in AML regulation and enforcement by recapping significant developments during the preceding year. In this inaugural edition, we recap 12 of the most important developments of 2023, including key priorities emphasized by enforcers, notable enforcement actions and prosecutions, significant judicial opinions, and an important legislative development.

Agency Priorities

We begin with a look at some of the U.S. government’s most significant priorities in the AML space: national security and the Corporate Transparency Act.

The Biden Administration Continues to Focus on National Security and AML

In 2023, the Biden administration prioritized investigations and prosecutions in the national security arena, particularly those implicating AML and sanctions. Department of Justice (“DOJ”) officials have repeatedly described sanctions as “the new FCPA”—relevant to an expanding number of industries, the focus of an increasingly multilateral enforcement regime, and subject to voluntary self-disclosure incentives.[1] Even businesses far removed from the defense sector such as tobacco, cement, and shipping faced enforcement actions for allegedly paying insufficient attention to the national security risks posed by certain actors, regions, and activities.[2] Further, money laundering-related cases now routinely intersect with international sanctions and export control violations.[3]

The U.S. government has backed its enforcement priorities with substantial resourcing. DOJ’s National Security Division designated its first Chief Counsel for Corporate Enforcement, Ian Richardson, and announced the hiring of 25 new prosecutors to investigate national security-related economic crimes.[4] Moreover, the Criminal Division’s Bank Integrity Unit likewise added six prosecutors—a 40 percent increase—to target national security-related financial misconduct.[5]

DOJ, along with the Departments of Treasury and Commerce, has embraced a “whole of government” approach to national security and illicit finance. One example is its growing use of inter-agency task forces. In 2023, DOJ’s Task Force Kleptocapture hit its stride with asset seizures (using inter alia money-laundering seizure theories) totaling more than $500 million of criminal assets with ties to the Russian regime.[6] Building on the success of Kleptocapture, the Departments of Justice and Commerce also launched the Disruptive Technology Strike Force,[7] a multi-agency task force that works to prevent U.S. adversaries from illicitly acquiring sensitive U.S. technology. The Disruptive Technology Strike Force already has brought money laundering prosecutions against those who allegedly evaded U.S. trade restrictions.[8] DOJ and Treasury—along with U.S. allies—have likewise continued to convene the Russian Elites, Proxies, and Oligarchs (REPO) Task Force.[9] This task force works to investigate and counter Russian sanctions evasion, including cryptocurrency and money laundering, and has blocked or frozen more than $58 billion of sanctioned Russian assets.[10]

U.S. enforcers have also released a number of alerts emphasizing the interplay between money laundering and national security issues. Treasury’s Financial Crimes Enforcement Network (“FinCEN”) is the U.S. government’s leading anti-money laundering regulator. In 2023, FinCEN issued three AML alerts to help detect potentially suspicious activity relating to Hamas’s financing and Russian export control violations.[11] FinCEN also issued supplemental AML alerts with Commerce’s Bureau of Industry and Security (“BIS”) that highlighted export evasion typologies.[12] In a similar vein, DOJ’s National Security Division began issuing joint advisories with Commerce and Treasury that provide the private sector with information about enforcement actions against those who use money laundering to support violations of U.S. sanctions and export controls.[13]

The Corporate Transparency Act’s Reporting Requirements to Assist AML Investigations

In January of 2021, the Anti-Money Laundering Act of 2020 became law.[14] One of the provisions in the bill was the Corporate Transparency Act (“CTA”), which established a new regime in the United States requiring many corporate entities to file a form with FinCEN disclosing their beneficial owners.[15]

To implement the CTA, FinCEN has currently issued two rules (with a third in progress). The first rule, the “Reporting Rule,” sets forth which entities need to disclose their beneficial ownership information (“BOI”) to FinCEN and by when. Entities subject to these reporting requirements include both “domestic reporting companies” and “foreign reporting companies.” Domestic reporting companies are defined as corporations, limited liability companies, or any other entity created by the filing of a document with a secretary of state or tribal nation.[16] Foreign reporting companies are corporations, LLCs, or other entities formed under the laws of a foreign country and registered to do business within any U.S. state.[17]

Domestic and foreign reporting companies must file BOI data with FinCEN unless an exemption applies. The CTA affords 23 exemptions for various entities—including public companies, money services businesses, select banks and credit unions, and large operating companies, defined as having more than 20 full time employees, an office space, and $5 million in gross receipts or sales in the United States the prior tax year.[18] There is also an exemption for investment advisers and investment funds, as detailed further in a prior Gibson Dunn client alert.[19] Additionally, subsidiaries of certain exempt entities need not report BOI information in particular circumstances as well.[20] However, pursuant to recent guidance from FinCEN, that exception only applies to subsidiaries that are “fully, 100 percent owned or controlled by an exempt entity.”[21]

If no exemption applies, then select domestic and foreign entities must disclose relevant BOI information. In general, these BOI reports must identify two categories of individuals: (1) the beneficial owners of the entity (defined as those natural persons who own at least 25% of the entity or who exercise “substantial control” over it); and (2) the company applicants of the entity (meaning those directly involved in or responsible for the filing that creates the company).[22] Companies formed before January 1, 2024, however, need only submit the names of their beneficial owners and not the identities of company applicants.[23] FinCEN’s Reporting Rule became operative as of January 1, 2024, with the regulation specifying varying deadlines for submission of BOI data.[24]

The effects of the CTA will continue to unfold in the coming months and years, but it has created significant work for companies as they sort through which of their corporate entities have any reporting obligations.

Notable Corporate AML Resolutions

2023 saw a number of notable AML resolutions. We discuss those which broke new ground below.

MindGeek: A Novel Application of The Spending Statute, 18 U.S.C. § 1957

In a prototypical case, U.S. prosecutors must prove three things to establish a violation of the general money laundering statute (18 U.S.C. § 1956): (1) the commission of an underlying felony (a “Specified Unlawful Activity” or “SUA”); (2) knowingly engaging in a financial transaction; and (3) specific intent to conceal or further the SUA through the financial transaction.[25] U.S. enforcers, however, have a second powerful tool at their disposal—the money laundering “spending statute” (18 U.S.C. § 1957). In a case involving the spending statute, prosecutors are relieved of the burden to prove specific intent to conceal or commit a further crime. Rather, the spending statute requires only (1) the commission of an SUA; and (2) knowingly engaging in a financial transaction involving $10,000 or more of proceeds from the SUA.[26]

On December 21, 2023, DOJ entered into a Deferred Prosecution Agreement with Aylo Holdings S.A.R.L. and its subsidiaries (collectively known as “MindGeek”) involving a novel and aggressive theory using the money laundering spending statute. MindGeek is the parent company of Pornhub and similar websites.[27] DOJ charged MindGeek with violating the spending statute for knowingly engaging in monetary transactions related to sex trafficking activity. DOJ’s theory centered on MindGeek’s relationship with two of its content partners, GirlsDoPorn.com (“GDP”) and GirlsDoToys.com (“GDT”) and the operators of those sites (referred to in the DPA as “the GDP Operators”).[28] According to the resolution documents, both GDP and GDT had specialized channels on MindGeek’s platforms, including Pornhub. Between mid-2017 and mid-2019, MindGeek allegedly received over $100,000 in payments from the GDP Operators.[29] DOJ also alleged that MindGeek “received payments from advertisers attributable to GDP and GDT content” totaling approximately $763,000.[30]

In order to establish that MindGeek had knowledge that the proceeds were from illicit origins, DOJ relied on a mosaic of sources to purportedly establish knowledge, including civil and criminal legal filings, news stories about these cases, takedown requests, and a business records subpoena.[31] Specifically, DOJ alleged that MindGeek’s knowledge derived from:

MindGeek’s receipt of a subpoena for production of business records from plaintiffs’ counsel in a lawsuit filed against GDP in 2016. The complaint in that lawsuit alleged that the GDP Operators had tricked the plaintiffs into appearing in pornographic videos posted to GDP by promising them that their videos would not be posted online;[32]
MindGeek’s receipt of content removal requests from plaintiffs in the lawsuit,[33] plaintiffs’ counsel, and other individuals;[34]
Publicly available criminal filings announcing the sex trafficking charges against GDP operators;[35] and
MindGeek executives’ receipt and internal discussion of news articles about the stages of the civil and criminal proceedings against GDP operators.[36]

On the basis of these allegations, MindGeek entered into a DPA asserting a violation of 18 U.S.C. § 1957.[37] MindGeek agreed to submit to a monitorship for three years[38] and pay a total fine of $974,692.06.[39] Notably, MindGeek agreed to compensate victims in the “full amount of [their] losses” caused by publication of their images on MindGeek’s websites, not including losses for pain and suffering, including a minimum of $3,000 per victim who can demonstrate harm.[40] Also, the DPA contained a stipulation that MindGeek “did not commit, conspire to commit, or aid and abet the commission of sex trafficking.”[41]

This is a novel and aggressive use of § 1957 because DOJ relied on sources such as the public allegations of wrongdoing and a business records subpoena to establish knowledge. Although the resolution may be explained in part by the nature of the industry involved, the resolution nevertheless suggests that public allegations of wrongdoing, the receipt of a business records subpoena, take down requests, and receipt and discussion of news articles about allegations can serve as ways that DOJ may try to establish knowledge under § 1957 against companies.

U.S. Enforcers Extend Reach of BSA and Sanctions to Non-U.S. Crypto Company

Binance is the world’s largest crypto currency exchange by trading volume and it is an overseas, non-U.S. company. On November 21, 2023, Binance reached a settlement to resolve a multi-year investigation with DOJ, the Commodity Futures Trading Commission (“CFTC”), the U.S. Department of Treasury’s Office of Foreign Assets Control (“OFAC”), and FinCEN.[42] Gibson Dunn represented Binance in this resolution.

Although Binance is a non-U.S. company, the enforcers alleged that it historically had U.S. users on its platform. As a result, the enforcers alleged that Binance needed to register as a foreign-located money services business and maintain an adequate AML program under U.S. law because it did business “wholly or in substantial part” within the United States.[43]

Prior to the Binance resolution, sanctions resolutions with cryptocurrency exchanges generally involved U.S. exchanges, which are prohibited from providing financial services to persons in jurisdictions subject to sanctions regulated by OFAC.[44] As a non-U.S. person, Binance could do business in sanctioned jurisdictions.[45] However, because Binance’s platform historically had both U.S. users and users from sanctioned jurisdictions, enforcers alleged that Binance used a “matching engine [. . .] that matched customer bids and offers to execute cryptocurrency trades.”[46] The failure to have sufficient controls on the matching engine, which operated randomly in matching users for trades, meant that it would “necessarily cause” transactions between U.S. users and users targeted by U.S. sanctions.[47] Enforcers took the position that these transactions violated U.S. civil and criminal sanctions law because the International Emergency Economic Powers Act (“IEEPA”) prohibits, among other things, “causing” a violation of sanctions by another party.[48] In other words, by randomly pairing trades between a historical U.S. user and person from a sanctioned jurisdiction, Binance was causing the U.S. person to violate their sanctions obligations. This resolution illustrates the breadth of U.S. jurisdiction to police sanctions offenses, even against non-U.S. companies.

Criminally, Binance pled guilty to (1) conspiracy to conduct an unlicensed money transmitting business, in violation of 18 U.S.C. § 1960 and 31 U.S.C. § 5330 for failure to register,[49] (2) failure to maintain an effective anti-money laundering program, in violation of 31 U.S.C. §§ 5318(h), 5322,[50] and (3) violating IEEPA, 50 U.S.C. § 1701 et seq.[51] Binance also entered into parallel civil settlements with FinCEN (failure to register, AML program) and OFAC (sanctions).[52] Further, Binance also entered into a settlement with the CFTC for violating various sections of the Commodities Exchange Act and related provisions.[53]

As part of the resolution, Binance agreed to pay $4.3 billion to the U.S. government over an approximately 18-month period.[54] Binance also agreed to continue with certain compliance enhancements and agreed to a three-year DOJ monitorship.[55]

FinCEN Designates Bitzlato as a “Primary Money-Laundering Concern” Pursuant to New Powers Designed to Target Russian Money Laundering

On January 18, 2023, FinCEN issued an order identifying Bitzlato Limited, a Hong Kong based cryptocurrency exchange, as a “primary money laundering concern.”[56] It issued this designation because Bitzlato was allegedly “repeatedly facilitating transactions for Russian-affiliated ransomware groups, including Conti, a Ransomware-as-a-Service group that has links to the Russian government and to Russian-connected darknet markets.”[57] The Bitzlato order is the first order issued pursuant to FinCEN’s powers under the Combatting Russian Money Laundering Act.[58]

In 2021, Congress passed the Combatting Russian Money Laundering Act (“Section 9714(a)”), which expanded the actions that FinCEN can take whenever it designates an entity as a “primary money laundering concern.”[59] Previously, whenever the Treasury Secretary had “reasonable grounds” for concluding that an entity is of “primary money laundering concern,”[60] then the Treasury Secretary could impose special measures that would limit the entity’s access to the global financial system.[61] Section 9714(a) provides additional powers to FinCEN to “prohibit, or impose conditions upon, certain transmittals of funds (to be defined by the Secretary) by any domestic financial institution or domestic financial agency.”

Under the terms of the Bitzlato order, FinCEN prohibits financial institutions (as defined in 31 C.F.R. § 1010.100(t)) from engaging in the transmittal of funds from or to Bitzlato. In remarks addressing the order, Deputy Secretary Adeyemo remarked that designating Bitzlato as a primary money laundering concern was a “unique step” that has only been taken a handful of times.[62]

DOJ also brought a parallel criminal proceeding against Bitzlato co-founder and Russian national Anatoly Legkodymov, who pleaded guilty to operating an unlicensed money transmitter and agreed to dissolve Bitzlato.[63]

Looking ahead, FinCEN will likely continue to be aggressive in using its authorities in the digital assets space. On October 19, 2023, for instance, FinCEN issued a Notice of Proposed Rulemaking which proposed to designate cryptocurrency mixers as a primary money laundering concern under Section 311 of the Patriot Act.[64] This is FinCEN’s first proposed Section 311 action involving a class of transactions.

FinCEN Imposes Civil Penalty on Shinhan, Reflecting Increased Scrutiny of Customer Due Diligence and Transaction Monitoring Systems

On September 29, 2023, FinCEN imposed a $15 million civil penalty on Shinhan Bank America for willful violation of the BSA.[65] The Consent Order reflects FinCEN’s growing scrutiny of—and increasingly granular expectations for—customer due diligence and transaction monitoring systems.

Notably, FinCEN criticized Shinhan’s overly “rigid” methodology for calculating customer risk rating scores and emphasized that banks should maintain formal customer risk rating procedures.[66] Risk ratings should not be solely based on customer type (e.g., individual vs. corporate entity) or the type of product (e.g., home mortgage vs. letter of credit). Rather, they should be individually assessed—both at onboarding and throughout the customer relationship—and be based on the customer’s activity and any new information learned about the customer.[67]

The Shinhan Order also makes clear that customers’ risk ratings should inform financial institutions’ monitoring of transactions. The Order notes that Shinhan’s transaction monitoring system did not cluster accounts belonging to the same customer relationship or aggregate transaction activity across different transaction types, undermining its ability to identify suspicious activity. It also includes examples of scenarios that banks should consider incorporating into their transaction monitoring systems, including:

wire transfers sent to several beneficiaries from a single originator, or sent from several originators to a single beneficiary;
transactions passing through a large number of jurisdictions; and
transactions conducted using Remote Deposit Capture.

Moreover, the Order states that these systems should be regularly and comprehensively tested to ensure all scenarios alert as intended, all relevant data properly feeds into the system, scenarios are sufficient and tailored for each product, and scenarios are appropriately applied to ingested data.[68]

FinCEN Issues First Action Against Trust Company

On April 26, 2023, FinCEN assessed a $1.5 million civil penalty against South Dakota-chartered Kingdom Trust Company for willful violation of the BSA.[69] This was FinCEN’s first action against a trust company.

FinCEN assessed a penalty against Kingdom Trust after the company opened accounts and provided services for Latin America-based trading companies and financial institutions with virtually no controls to identify or assess suspicious transactions.[70] A consultant referred clients based in Uruguay, Argentina, Panama, and other locations to the Trust.[71] Kingdom Trust then held cash and securities for these customers and initiated a high volume of suspicious transactions worth approximately $4 billion that went unchecked and unreported.[72] Despite providing services to customers who were the subject of prior media reports related to money laundering and securities fraud, the Trust’s AML compliance program consisted of a single individual responsible for manually reviewing daily transactions.[73]

FinCEN’s action against Kingdom Trust reflects the agency’s growing focus on entities beyond traditional financial institutions, including those not historically subject to the BSA, such as real estate businesses and investment advisors.[74] FinCEN’s action against Kingdom Trust reflects the agency’s unwillingness to “tolerate trust companies with weak compliance programs that fail to identify and report suspicious activities, particularly with respect to high-risk customers whose businesses pose an elevated risk of money laundering.”[75]

FinCEN Issues First Action Under Gap Rule Against Bancrédito for Failing to Report Suspicious Transactions

On September 15, 2023, FinCEN levied a $15 million civil monetary penalty against Bancrédito International Bank and Trust Corporation (Bancrédito).[76] Bancrédito (which held U.S. dollar-denominated accounts on behalf of numerous Central American and Caribbean financial institutions) allegedly failed to both report suspicious transactions (“SARs”) involving movement of U.S. dollars and never established or maintained an AML program, as required by the recently enacted “Gap Rule” (31 C.F.R. § 1020.210).[77]

The enforcement action against Bancrédito is notable in multiple respects. It is the first time that FinCEN took action against a Puerto Rican International Banking Entity (“IBE”). The U.S. Department of the Treasury’s 2022 National Money Laundering Risk Assessment alleged that IBEs pose an elevated risk of money laundering.[78] It is also the first enforcement action under FinCEN’s recently enacted “Gap Rule.” Previously, banks lacking federal functional regulators (such as private banks, non-federally insured credit unions, and certain trust companies) were exempt from select AML program obligations, namely (1) the development of internal policies, procedures, and controls; (2) the designation of a compliance officer; (3) facilitating an ongoing employee training program; and (4) requiring an independent audit function to test programs.[79] However, the “Gap Rule,” effective beginning in 2021, functionally filled that “gap” by requiring the newly covered entities to meet those specific AML requirements (along with also complying with pre-existing BSA obligations such as reporting SARs).[80]

Individual Prosecutions

2023 also featured a number of notable prosecutions of individuals under U.S. money laundering statutes, including in connection with sanctions evasion and in the digital assets industry.

Money Laundering and Sanctions Evasion

In 2023, federal prosecutors on DOJ’s Task Force KleptoCapture brought several prosecutions against the associates of sanctioned oligarch Viktor Vekselberg. OFAC designated Vekselberg as a Specially Designated National (“SDN”) in March 2018.[81] In 2023, DOJ brought a number of prosecutions which reflect the growing intersection between money laundering and sanctions evasion.[82]

On January, 20, 2023, DOJ announced the indictment of Vladislav Osipov and Richard Masters for facilitating a sanctions evasion and money laundering scheme related to a 255-foot luxury yacht owned by Vekselberg.[83] Osipov and Masters used U.S. companies to manage the operation of the vessel and to obfuscate Vekselberg’s involvement, including using payments through third parties and non-U.S. currencies to do business with U.S. companies.[84]

DOJ also targeted Vekselberg’s property portfolio in the United States and those who helped him manage it. On February 7, 2023, federal prosecutors announced the indictment of Vladimir Voronchenko, an associate of Vekselberg’s, for making more than $4 million in payments to maintain four U.S. properties owned by Vekselberg and for his attempt to sell two of those properties.[85] A few weeks later, on February 24, prosecutors brought a civil forfeiture complaint against six of Vekselberg’s properties in New York City, Southampton, New York, and Fisher Island, Florida, alleging that they were the proceeds of sanctions violations and involved in international money laundering.[86]

Vekselberg’s U.S. associates also faced prosecution for their role in money laundering and evading U.S. sanctions. On April 25, 2023, New York attorney Robert Wise pled guilty to conspiracy to commit international money laundering for unlawfully transferring Russian funds into the United States in violations of U.S. sanctions.[87] Voronchenko had retained Wise to assist him in managing Vekselberg’s U.S. properties.[88] Immediately after Vekselberg’s designation as an SDN, Wise’s IOLTA Account began to receive wires from new sources, a Russian bank account, and a bank account in the Bahamas held in the name of a shell company controlled by Voronchenko.[89] Despite being aware of Vekselberg’s designation as an SDN, Wise received 25 wire transfers totaling nearly $3.8 million in his IOLTA account between June 2018 and March 2022 and used these funds to maintain and service Vekselberg’s properties in defiance of U.S. sanctions.[90]

Collectively, these actions demonstrate the increasing interplay between violations of U.S. sanctions and money laundering laws.

Money Laundering Prosecutions of Cryptocurrency Executives for Fraud

2023 also included a number of money laundering prosecutions against executives in the digital assets industry. The most significant of 2023’s individual prosecutions sounded in fraud and subsequent laundering of the fraud proceeds.

On November 2, 2023, a New York jury convicted FTX founder Sam Bankman-Fried of stealing billions of dollars’ worth of FTX customer deposits, capping one of the highest-profile criminal fraud trials in recent history.[91] One of the charges against Bankman-Fried was violating 18 U.S.C. § 1956(a)(1)(B)(i), on the basis that he knowingly engaged in a transaction involving proceeds of illegal activity in order hide the illegal origins of the funds; and Section 1957(a), on the basis that he engaged in a transaction involving criminally derived property exceeding $10,000.[92] These charges related to the transfer of customer funds from Bankman-Fried’s centralized exchange, FTX, to FTX’s sister organization, the hedge fund Alameda Research.[93] Bankman-Fried was convicted on all seven counts, including the money laundering charges.[94] Bankman-Fried’s sentencing hearing is scheduled for March 2024.[95]

Earlier in 2023, Nate Chastain, the former Head of Product at NFT Trading Platform OpenSea, was convicted by a jury of wire fraud and money laundering in what is considered the first insider-trading case involving digital assets. Chastain was accused of purchasing NFTs before they were featured on OpenSea’s homepage, where they subsequently rose in price. Perhaps because the question of whether NFTs are subject to securities laws remains open,[96] DOJ prosecuted Chastain under wire fraud and money laundering statutes.[97] DOJ alleged money laundering because, by engaging in insider trading of NFTs, Chastain knowingly conducted a financial transaction involving the proceeds of an unlawful activity (i.e., wire fraud), in violation of 18 U.S.C. § 1956(a)(1)(B)(i).[98]

Another notable fraud-based cryptocurrency executive prosecution of 2023 involved the former SafeMoon executives, who were accused of making a series of fraudulent misrepresentations about the cryptocurrency that they managed and marketed.[99] DOJ charged a violation of 18 U.S.C. § 1956(a)(1)(B)(i) on the theory that the executives knowingly engaged in and covered up transactions involving the proceeds of securities fraud and wire fraud.[100]

Judicial Opinions

The Implications of Narrowing the Honest Services Wire Fraud Statute

Two judicial decisions in 2023 could affect how prosecutors pursue future money laundering prosecutions. These opinions involve the now highly-publicized FIFA corruption and Varsity Blues scandals—occasions where individuals allegedly made illicit payments to secure lucrative FIFA contracts and favorable college admission decisions, respectively. In both United States v. Full Play Grp., S.A., 2023 WL 5672268 (E.D.N.Y. Sept. 1, 2023) (involving the FIFA corruption matter) and United States United States v. Abdelaziz, 68 F.4th 1 (1st Cir. 2023) (a decision relating to Varsity Blues), federal courts held that certain transactions failed to qualify as unlawful instances of honest services wire fraud—a predicate offense that prosecutors frequently rely on when charging money laundering.[101]

In Full Play, several individuals and companies in the entertainment industry sought to earn media and other related contracts with various sports organizations (including soccer’s FIFA).[102] In an effort to secure these contracts, the media representatives were alleged to have paid FIFA officials significant sums in side payments.[103] Though various individuals were charged with honest services wire fraud for their actions, the district court found that such payments (i.e., those made to private employees of a foreign corporation and labeled as foreign commercial bribery) did not qualify as actionable instances of honest services fraud under 18 U.S.C. §§ 1343 and 1346.[104] In reaching that conclusion, the district court applied two Supreme Court opinions issued last term: Percoco v. United States, 598 U.S. 319 (2023) and Ciminelli v. United States, 598 U.S. 306 (2023). Citing specifically to the Percoco decision, the district court found that honest services fraud “must be defined with the clarity typical of criminal statutes and should not be held to reach an ill-defined category of circumstances simply because of a smattering” of earlier precedents.[105] Applying that standard, the district court vacated the convictions because no applicable precedents precisely addressed (and thus criminalized) comparable instances of foreign commercial bribery.[106] Full Play is currently the subject of an appeal in the Second Circuit.[107]

Similarly, albeit before Percoco and Ciminelli were decided, the Abdelaziz court removed another type of transaction from the range of prosecutable offenses under the honest services fraud provision. In that case, a parent was convicted of making illicit side payments to college admissions personnel—intending that the payments would secure preferential admissions decisions for his child.[108] On appeal, the Abdelaziz court overturned the conviction—finding that such conduct did not amount to honest services wire fraud. In reaching that result, the court specified that the transaction at issue—one where the alleged briber (the convicted parent) actually compensated the alleged victim (the university)—did not fit the conventional understanding of “bribe” or “kickback” under 18 U.S.C. §§ 1343 and 1346.[109] Because no prior decision had specifically barred payments that so clearly benefitted an alleged victim, it could not be considered a criminal deprivation of honest services.

As the courts continue to narrow the scope of the honest services wire fraud statute, prosecutors will be forced to craft different theories of honest services wire fraud and/or rely on different predicate offenses when identifying an SUA required for charging money laundering.

Legislation

2023 also saw an important legislative change in the bribery space, which will also impact money laundering prosecutions.

The Impact of FEPA for Money Laundering Prosecutions

On December 22, 2023, federal lawmakers passed the Foreign Extortion Prevention Act (“FEPA”). FEPA criminalizes what is colloquially referred to as “demand side” bribery—instances in which foreign officials demand, solicit, seek, or receive bribes from a domestic person or U.S.-located company.[110] Before FEPA’s passage, no particular provision under federal law penalized this particular scheme—with the Foreign Corrupt Practices Act (“FCPA”) focusing instead on the supply side of offering or paying bribes to foreign persons.[111] FEPA arms prosecutors with a new tool to root out alleged instances of foreign bribery or extortion that is focused on foreign public officials.

More than just an anti-corruption mechanism, FEPA will also equip prosecutors with an additional tool to pursue money laundering prosecutions as well. By its terms, any contemplated or actual violation of FEPA would qualify as an SUA under the money laundering statutes.[112] Passage of this law will allow prosecutors to rely on U.S. law (i.e., FEPA) when charging foreign officials with money laundering, as opposed to having to allege that the conduct constituted bribery under the foreign laws of another country, which is also an SUA.

Conclusion

2023 was a notable year in the AML enforcement space. We anticipate that 2024 will also be active, as the impacts of FinCEN’s AML whistleblower program begin to be felt, and the additional prosecutors come online in the Criminal Division’s Bank Integrity Unit and the National Security Division’s Counterintelligence and Export Control Section. Moreover, there are yet-to-be issued rules expected both for regulation of the real estate industry and for registered investment advisors.

__________

[1] See, e.g., Principal Associate Deputy Attorney General Marshall Miller Delivers Remarks at the Global Investigations Review Annual Meeting (Sept. 21, 2023), https://www.justice.gov/opa/speech/principal-associate-deputy-attorney-general-marshall-miller-delivers-remarks-global (“It is for all of these reasons that the DAG [Deputy Attorney General] has warned that from a compliance standpoint ‘sanctions are the new FCPA.’”).

[2] See Principal Associate Deputy Attorney General Marshall Miller Delivers Remarks at the Global Investigations Review Annual Meeting (Sept. 21, 2023), https://www.justice.gov/opa/speech/principal-associate-deputy-attorney-general-marshall-miller-delivers-remarks-global (“Even business operations and lines far removed from the defense sector – like cigarettes, cement, and shipping – can pose dire national security risks if companies are not highly sensitive to high-risk actors, high-risk regions, and high-risk activities.”).

[3] Principal Associate Deputy Attorney General Marshall Miller Delivers Remarks at the Ethics and Compliance Initiative IMPACT Conference (May 3, 2023), https://www.justice.gov/opa/speech/principal-associate-deputy-attorney-general-marshall-miller-delivers-remarks-ethics-and (“From money laundering and cyber- and crypto-enabled crime to sanctions and export control evasion and even funneled payments to terrorist groups, corporate crime increasingly — now almost routinely — intersects with national security concerns.”).

[4] Principal Associate Deputy Attorney General Marshall Miller Delivers Remarks at the Global Investigations Review Annual Meeting (Sept. 21, 2023), https://www.justice.gov/opa/speech/principal-associate-deputy-attorney-general-marshall-miller-delivers-remarks-global.

[5] Deputy Attorney General Lisa Monaco Delivers Remarks at American Bar Association National Institute on White Collar Crime (Mar. 2, 2023), https://www.justice.gov/opa/speech/deputy-attorney-general-lisa-monaco-delivers-remarks-american-bar-association-national; Principal Associate Deputy Attorney General Marshall Miller Delivers Remarks at the Global Investigations Review Annual Meeting (Sept. 21, 2023), https://www.justice.gov/opa/speech/principal-associate-deputy-attorney-general-marshall-miller-delivers-remarks-global.

[6] Deputy Assistant Attorney General Eun Young Choi Delivers Keynote Remarks at GIR Live: Sanctions & Anti-Money Laundering Meeting (Nov. 16, 2023), https://www.justice.gov/opa/speech/deputy-assistant-attorney-general-eun-young-choi-delivers-keynote-remarks-gir-.live.

[7] Press Release, U.S. Dep’t of Just., Justice and Commerce Departments Announce Creation of Disruptive Technology Strike Force (May 16, 2023), https://www.justice.gov/opa/pr/justice-and-commerce-departments-announce-creation-disruptive-technology-strike-force; see also Press Release, U.S. Dep’t of Just., Justice Department Announces Five Cases as Part of Recently Launched Disruptive Technology Strike Force (May 16, 2023), https://www.justice.gov/opa/pr/justice-department-announces-five-cases-part-recently-launched-disruptive-technology-strike.

[8] Id.

[9] Press Release, U.S. Dep’t of Just., Russian Elites, Proxies, and Oligarchs Task Force Ministerial Joint Statement (Mar. 17, 2022), https://www.justice.gov/opa/pr/russian-elites-proxies-and-oligarchs-task-force-ministerial-joint-statement.

[10] Press Release, U.S. Dep’t of Just., Russian Elites, Proxies, and Oligarchs Task Force Ministerial Joint Statement (Mar. 17, 2023), https://www.justice.gov/opa/pr/russian-elites-proxies-and-oligarchs-task-force-ministerial-joint-statement; Statement, U.S. Dep’t of Just., Joint Statement from the REPO Task Force (Mar. 9, 2023), https://home.treasury.gov/news/press-releases/jy1329.

[11] Press Release, Fin. Crimes Enf’t Network, U.S. Dep’t of the Treasury, FinCEN Alert to Financial Institutions to Counter Financing to Hamas and its Terrorist Activities (Oct. 20, 2023), https://www.fincen.gov/sites/default/files/2023-10/FinCEN_Alert_Terrorist_Financing_FINAL508.pdf; Supplemental Alert: FinCEN and the U.S. Department of Commerce’s Bureau of Industry and Security Urge Continued Vigilance for Potential Russian Export Control Evasion Attempts (May 19, 2023), https://www.fincen.gov/sites/default/files/shared/FinCEN%20and%20BIS%20Joint%20Alert%20_FINAL_508C.pdf; FinCEN Alert on Potential U.S. Commercial Real Estate Investments by Sanctioned Russian Elites, Oligarchs, and Their Proxies (Jan. 25, 2023), https://www.fincen.gov/sites/default/files/shared/FinCEN%20Alert%20Real%20Estate%20FINAL%20508_1-25-23%20FINAL%20FINAL.pdf.

[12] Supplemental Alert: FinCEN and the U.S. Department of Commerce’s Bureau of Industry and Security Urge Continued Vigilance for Potential Russian Export Control Evasion Attempts (May 19, 2023), https://www.fincen.gov/sites/default/files/shared/FinCEN%20and%20BIS%20Joint%20Alert%20_FINAL_508C.pdf; FinCEN & BIS Joint Notice: FinCEN and the U.S. Department of Commerce’s Bureau of Industry and Security Announce New Reporting Key Term and Highlight Red Flags Relating to Global Evasion of U.S. Export Controls (Nov. 6, 2023), https://www.fincen.gov/sites/default/files/shared/FinCEN_Joint_Notice_US_Export_Controls_FINAL508.pdf.

[13] See U.S. Dep’t of Com., U.S. Dep’t of the Treasury, and U.S. Dep’t of Just., Tri-Seal Compliance Note: Cracking Down on Third-Party Intermediaries Used to Evade Russia-Related Sanctions and Export Controls (Mar. 2, 2023), https://www.justice.gov/nsd/file/1277536/dl?inline. See also Deputy Attorney General Lisa Monaco Delivers Remarks at American Bar Association National Institute on White Collar Crime (Mar. 2, 2023), https://www.justice.gov/opa/speech/deputy-attorney-general-lisa-monaco-delivers-remarks-american-bar-association-national.

[14] See William M. (Mac) Thornberry National Defense Authorization Act for Fiscal Year 2021, Pub. L. 116-283, Div. F.

[15] Id., § 6403 (adding 31 U.S.C. § 5336).

[16] 31 C.F.R. § 1010.380(c)(1)(i).

[17] 31 C.F.R. § 1010.380(c)(1)(ii).

[18] 31 C.F.R. § 1010.380(c)(2)(i)-(xxiii).

[19] 31 C.F.R. § 1010.380(c)(2)(x)-(xi); Gibson Dunn, The Impact of FinCEN’s Beneficial Ownership Regulation on Investment Funds (Aug. 10, 2023), https://www.gibsondunn.com/the-impact-of-fincens-beneficial-ownership-regulation-on-investment-funds/.

[20] 31 C.F.R. § 1010.380(c)(2)(xxii).

[21] FinCEN: Beneficial Ownership Information Reporting, Frequently Asked Questions (Jan. 12, 2024), https://www.fincen.gov/boi-faqs.

[22] 31 C.F.R. § 1010.380(b)-(e).

[23] 31 C.F.R. § 1010.380(b)(2)(iv).

[24] 31 C.F.R. § 1010.380(a)(1)(i)(B).

[25] See United States v. Huezo, 546 F.3d 174, 178 (2d Cir. 2008) (“The substantive offense of ‘transaction money laundering’ requires proof of both knowledge and specific intent.”) (citing Cuellar v. United States, 128 S. Ct. 1994 (2008)).

[26] See United States v. Wright, 341 F. App’x 709, 713 (2d Cir. 2009) (“To demonstrate a § 1957 violation, the government must prove, inter alia, that the money Wright used to lease the car exceeded $10,000 and was ‘derived from specified unlawful activity.’”).

[27] Deferred Prosecution Agreement at 1, United States v. Aylo Holdings S.A.R.L., No. 1:23-cr-00463 (E.D.N.Y. Dec. 21, 2023), https://www.justice.gov/d9/2023-12/2023.12.21_dpa_final_court_exhibit_version_0.pdf (hereinafter “DPA”).

[28] Attachment B to Deferred Prosecution Agreement, United States v. Aylo Holdings S.A.R.L., No. 1:23-cr-00463 (E.D.N.Y. Dec. 21, 2023) (hereinafter “MindGeek Information”), https://www.justice.gov/d9/2023-12/2023.12.21_dpa_final_court_exhibit_version_0.pdf, ¶ 8.

[29] Id. ¶ 10.

[30] Id.

[31] Id.

[32] Id. ¶ 16.

[33] Id. ¶ 17.

[34] Id. ¶¶ 20, 27.

[35] Id. ¶ 23.

[36] Id. ¶¶ 18, 22, 29, 30.

[37] See DPA at 1.

[38] Id. at 2.

[39] Id. at 2–3.

[40] Id. at 9–10.

[41] Id. at 5.

[42] See Binance Blog, Binance Announcement: Reaching Resolution with U.S. Regulators (Nov. 21, 2023), https://www.binance.com/en/blog/leadership/binance-announcement-reaching-resolution-with-us-regulators-2904832835382364558.

[43] 31 C.F.R. § 1010.100(ff).

[44] See, e.g., Press Release, U.S. Dep’t of the Treasury, Treasury Announces Two Enforcement Actions for Over $24M and $29M Against Virtual Currency Exchange Bittrex, Inc. (Oct. 11, 2022), https://home.treasury.gov/news/press-releases/jy1006 (announcing an enforcement action against Bittrex, Inc., a virtual currency exchange that was based in Washington state).

[45] See International Emergency Economic Powers Act (IEEPA), 50 U.S.C. § 1701(a)(1)(A) (empowering the President to prohibit transactions by “any person, or with respect to any property, subject to the jurisdiction of the United States.”); see also Office of Foreign Assets Control, Frequently Asked Questions: 11. Who Must Comply with OFAC Regulations?, https://ofac.treasury.gov/faqs/11 (“U.S. persons must comply with OFAC regulations, including all U.S. citizens and permanent resident aliens regardless of where they are located, all persons and entities within the United States, all U.S. incorporated entities and their foreign branches. In the cases of certain programs, foreign subsidiaries owned or controlled by U.S. companies also must comply. Certain programs also require foreign persons in possession of U.S.-origin goods to comply.”).

[46] Attachment A, “Statement of Facts,” to the Plea Agreement in United States v. Binance Holdings Ltd., No. 23-178RAJ (Nov. 21, 2023), https://www.justice.gov/opa/media/1326901/dl?inline (hereinafter “Binance SOF”) at 7, ¶ 22.

[47] Id.

[48] 50 U.S.C. § 1705(a) (“It shall be unlawful for a person to violate, attempt to violate, conspire to violate or cause a violation of any license, order, regulation, or prohibition issued [pursuant to IEEPA].”).

[49] Plea Agreement in United States v. Binance Holdings Ltd., No. 23-178RAJ (Nov. 21, 2023), https://www.justice.gov/opa/media/1326901/dl?inline (hereinafter “Binance Plea Agreement”), at ¶ 2.

[50] Id.

[51] Id.

[52] See Nikhilesh De, Binance to Make ‘Complete Exit’ From U.S., Pay Billions to FinCEN, OFAC on Top of DOJ Settlement, CoinDesk (Nov. 21, 2023), https://www.coindesk.com/policy/2023/11/21/binance-to-make-complete-exit-from-us-pay-billions-to-fincen-ofac-on-top-of-doj-settlement/.

[53] Id.

[54] Binance Plea Agreement ¶ 24.

[55] Id at ¶ 32.

[56] Press Release, Fin. Crimes Enf’t Network, U.S. Dep’t of the Treasury, FinCEN Identifies Virtual Currency Exchange Bitzlato as a ‘Primary Money Laundering Concern’ in Connection with Russian Illicit Finance (Jan. 18, 2023), https://www.fincen.gov/news/news-releases/fincen-identifies-virtual-currency-exchange-bitzlato-primary-money-laundering.

[57] Press Release, U.S. Dep’t of the Treasury, Remarks by Wally Adeyemo on Action Against Russian Illicit Finance (Jan. 18, 2023), https://home.treasury.gov/news/press-releases/jy1193.

[58] Public Law 116-283, § 9714(a) (Jan. 1, 2021).

[59] See 88 Fed. Reg. 3919, 3920 (Feb. 1, 2023), https://www.federalregister.gov/documents/2023/01/23/2023-01189/imposition-of-special-measure-prohibiting-the-transmittal-of-funds-involving-bitzlato (explaining passage of the Combatting Russian Money Laundering Act).

[60] 31 U.S.C. § 5381A(a)(1).

[61] 31 U.S.C. § 5381A(b) (commonly known as Section 311 of the Patriot Act).

[62] Press Release, U.S. Dep’t of the Treasury, Remarks by Wally Adeyemo on Action Against Russian Illicit Finance (Jan. 18, 2023), https://home.treasury.gov/news/press-releases/jy1193.

[63] Press Release, U.S. Dep’t of Just., Founder and Majority Owner of Bitzlato, a Cryptocurrency Exchange Charged with Unlicensed Money Transmitting (Jan. 18, 2023), https://www.justice.gov/usao-edny/pr/founder-and-majority-owner-bitzlato-cryptocurrency-exchange-charged-unlicensed-money.

[64] 88 Fed. Reg. 72701, 72704 (Oct. 23, 2023), https://www.federalregister.gov/documents/2023/10/23/2023-23449/proposal-of-special-measure-regarding-convertible-virtual-currency-mixing-as-a-class-of-transactions.

[65] In The Matter Of: Shinhan Bank America, No. 2023-03 (Sept. 29, 2023), https://www.fincen.gov/sites/default/files/enforcement_action/2023-09-29/SHBA_9-28_FINAL_508.pdf.

[66] Id.

[67] Id.

[68] Id.

[69] Press Release, Fin. Crimes Enf’t Network, U.S. Dep’t of the Treasury, FinCEN Assesses $1.5 Million Civil Money Penalty against Kingdom Trust Company for Violations of the Bank Secrecy Act (Apr. 26, 2023), https://www.fincen.gov/news/news-releases/fincen-assesses-15-million-civil-money-penalty-against-kingdom-trust-company.

[70] Id.

[71] Id.

[72] Id.

[73] Id.

[74] See generally Statement of Himamauli Das, Acting Dir., Fin. Crimes Enf’t Network, U.S. Dep’t of the Treasury, Before the Comm. on Fin. Servs., U.S. House of Representatives (Apr. 27, 2023), https://www.fincen.gov/sites/default/files/2023-04/HHRG-118-HFSC-DasH-20230427.pdf; Remarks by Brian Nelson, Under Sec. for Terrorism and Fin. Intel., U.S. Dep’t of the Treasury, at SIFMA’s Anti-Money Laundering and Financial Crimes Conference (May 25, 2022), https://home.treasury.gov/news/press-releases/jy0800.

[75] Id.

[76] In The Matter Of: Bancrédito International Bank and Trust Corporation, No. 2023-02 (Sept. 15, 2023), https://www.fincen.gov/sites/default/files/enforcement_action/2023-09-15/Bancredito_Consent_FINAL_091523_508C.pdf.

[77] Press Release, Fin. Crimes Enf’t Network, U.S. Dep’t of the Treasury, FinCen Announces $15 Million Civil Money Penalty against Bancrédito International Bank and Trust Corporation for Violations of the Bank Secrecy Act (Sept. 15, 2023), https://www.fincen.gov/news/news-releases/fincen-announces-15-million-civil-money-penalty-against-bancredito-international.

[78] National Money Laundering Risk Assessment (Feb. 2022), https://home.treasury.gov/system/files/136/2022-National-Money-Laundering-Risk-Assessment.pdf.

[79] Id.; see also 31 U.S.C. § 5318(h).

[80] See generally 31 C.F.R. § 1020.210; see also 85 Fed. Reg. 57129 (Nov. 16, 2020), https://www.federalregister.gov/documents/2020/09/15/2020-20325/financial-crimes-enforcement-network-customer-identification-programs-anti-money-laundering-programs.

[81] Press Release, U.S. Dep’t of Just., Associate of Sanctioned Oligarch Indicted for Sanctions Evasion and Money Laundering (Feb. 7, 2023), https://www.justice.gov/opa/pr/associate-sanctioned-oligarch-indicted-sanctions-evasion-and-money-laundering.

[82] Press Release, U.S. Dep’t of Just., New York Attorney Pleads Guilty to Conspiring to Commit Money Laundering to Promote Sanctions Violations by Associate of Sanctioned Russian Oligarch (Apr. 25, 2023), https://www.justice.gov/opa/pr/new-york-attorney-pleads-guilty-conspiring-commit-money-laundering-promote-sanctions.

[83] Press Release, U.S. Dep’t of Just., Arrest and Criminal Charges Against British and Russian Businessmen for Facilitating Sanctions Evasion of Russian Oligarch’s $90 Million Yacht (Jan. 20, 2023), https://www.justice.gov/usao-dc/pr/arrest-and-criminal-charges-against-british-and-russian-businessmen-facilitating.

[84] Id.

[85] Press Release, U.S. Dep’t of Just., Associate of Sanctioned Oligarch Indicted for Sanctions Evasion and Money Laundering (Feb. 7, 2023), https://www.justice.gov/opa/pr/associate-sanctioned-oligarch-indicted-sanctions-evasion-and-money-laundering.

[86] Press Release, U.S. Dep’t of Just., Civil Forfeiture Complaint Filed Against Six Luxury Real Estate Properties Involved In Sanctions Evasion And Money Laundering (Feb. 24, 2023), https://www.justice.gov/usao-sdny/pr/civil-forfeiture-complaint-filed-against-six-luxury-real-estate-properties-involved?utm_medium=email&utm_source=govdelivery.

[87] See Superseding Information, United States v. Wise, No. 1:23-cr-00073, Dkt. 4 (S.D.N.Y. 2023).

[88] Id.

[89] Id.

[90] Press Release, U.S. Dep’t of Just., New York Attorney Pleads Guilty to Conspiring to Commit Money Laundering to Promote Sanctions Violations by Associate of Sanctioned Russian Oligarch (Apr. 25, 2023), https://www.justice.gov/opa/pr/new-york-attorney-pleads-guilty-conspiring-commit-money-laundering-promote-sanctions.

[91] See Gibson Dunn, Gibson Dunn Digital Assets Recent Updates – November 2023 (Nov. 6, 2023), https://www.gibsondunn.com/gibson-dunn-digital-assets-recent-updates-november-2023/.

[92] See Superseding Indictment, United States v. Bankman-Fried, No. 1:22-cr-00673, Dkt. 115 (S.D.N.Y. March 28, 2023), https://www.justice.gov/criminal-fraud/file/1593626/dl at ¶¶ 92–95.

[93] Press Release, U.S. Dep’t of Just., United States Attorney Announces Charges Against FTX Founder Sam Bankman-Fried (Dec. 13, 2022), https://www.justice.gov/usao-sdny/pr/united-states-attorney-announces-charges-against-ftx-founder-samuel-bankman-fried.

[94] James Fanelli and Corinne Ramey, Sam Bankman-Fried Is Convicted of Fraud in FTX Collapse, Wall St. J. (Nov. 2, 2023), https://www.wsj.com/finance/currencies/verdict-sam-bankman-fried-trial-ftx-guilty-4a54dbfe.

[95] Id.

[96] Id.

[97] See Chris Dolmestch and Bob Van Voris, First NFT Insider-Trading Trial Leads to Criminal Conviction, Wall St. J. (May 3, 2023), https://www.bloomberg.com/news/articles/2023-05-03/first-nft-insider-trading-trial-leads-to-criminal-conviction.

[98] See Jody Godoy, Ex-OpenSea manager sentenced to 3 months in prison for NFT insider trading (Aug. 22, 2023), https://www.reuters.com/legal/ex-opensea-manager-sentenced-3-months-prison-nft-insider-trading-2023-08-22/.

[99] Press Release, U.S. Dep’t of Just., Founders and Executives of Digital-Asset Company Charged in Multi-Million Dollar International Fraud Scheme (Nov. 1, 2023), https://www.justice.gov/usao-edny/pr/founders-and-executives-digital-asset-company-charged-multi-million-dollar.

[100] United States v. Karony, No. CR-23-433 (E.D.N.Y Oct. 31, 2023), https://www.justice.gov/media/1334306/dl.

[101] See 18 U.S.C. § 1956(c)(7).

[102] United States v. Full Play Grp., S.A., No. 15-CR-252S3PKC, 2023 WL 5672268, at *1-9 (E.D.N.Y. Sept. 1, 2023).

[103] Id.

[104] Id. at *23.

[105] Id. at *20 (internal quotation omitted).

[106] Id. at *23 n.26.

[107] U.S. v. Webb, No. 23-7183 (2d. Cir. 2024).

[108] Abdelaziz, 68 F.4th at 13.

[109] Id. at 29.

[110] National Defense Authorization Act for Fiscal Year 2024, S. 2226, 118th Cong. § 5101(2), codified at 18 U.S.C. § 201(f).

[111] See generally 15 U.S.C. § 78dd-1.

[112] Defining specified unlawful activities to include violations of 18 U.S.C. § 201—the subsection of the federal code wherein FEPA will be codified.

The following Gibson Dunn attorneys assisted in preparing this update: M. Kendall Day, Stephanie Brooker, Chris Jones, Ella Capone, Justin duRivage*, Maura Carey*, and Ben Schlichting.

Gibson Dunn has deep experience with issues relating to the Bank Secrecy Act, other AML and sanctions laws and regulations, and the defense of financial institutions more broadly. For assistance navigating white collar or regulatory enforcement issues involving financial institutions, please contact the Gibson Dunn lawyer with whom you usually work in the firm’s Anti-Money Laundering / Financial Institutions, White Collar Defense & Investigations, or International Trade practice groups, the authors, or any of the following practice group leaders:

Anti-Money Laundering / Financial Institutions:
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)

White Collar Defense and Investigations:
Stephanie Brooker – Washington, D.C. (+1 202.887.3502, sbrooker@gibsondunn.com)
Winston Y. Chan – San Francisco (+1 415.393.8362, wchan@gibsondunn.com)
Nicola T. Hanna – Los Angeles (+1 213.229.7269, nhanna@gibsondunn.com)
F. Joseph Warin – Washington, D.C. (+1 202.887.3609, fwarin@gibsondunn.com)

Global Fintech and Digital Assets:
M. Kendall Day – Washington, D.C. (+1 202.955.8220, kday@gibsondunn.com)
Jeffrey L. Steiner – Washington, D.C. (+1 202.887.3632, jsteiner@gibsondunn.com)
Sara K. Weed – Washington, D.C. (+1 202.955.8507, sweed@gibsondunn.com)

Global Financial Regulatory:
William R. Hallatt – Hong Kong (+852 2214 3836, whallatt@gibsondunn.com)
Michelle M. Kirschner – London (:+44 20 7071 4212, mkirschner@gibsondunn.com)
Jeffrey L. Steiner – Washington, D.C. (+1 202.887.3632, jsteiner@gibsondunn.com)

International Trade:
Ronald Kirk – Dallas (+1 214.698.3295, rkirk@gibsondunn.com)
Adam M. Smith – Washington, D.C. (+1 202.887.3547, asmith@gibsondunn.com)

*Maura Carey and Justin duRivage are associates practicing in the firm’s Palo Alto office who are not yet admitted to practice law.