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Concept Release on the US Proxy System
File Format: PDF/Adobe Acrobat - View as HTML
SUMMARY: The Commission is publishing this concept release to solicit comment on various aspects of the U.S. proxy system. It has been many years since we ...
www.sec.gov/rules/concept/2010/34-62495.pdf

Cost Basis Reporting Law (revised March 01, 2010)
File Format: PDF/Adobe Acrobat - Quick View
Mar 1, 2010 ... REG-101896-09, 2010-5 I.R.B. 347. 92-19. Supplemented in part by ... may view the Internal Revenue Bulletin on the Internet at www.irs.gov. ...
www.irs.gov/pub/irs-irbs/irb10-09.pdf

Financial Reform's Modest Impact - Forbes.com
Jul 20, 2010 ... Congress passed the final version of financial reform legislation on July 15, and President Barack Obama will sign the bill within days. ... The text of the legislation leaves undefined significant, substantive details ...
www.forbes.com/.../united-states-financial-reform-business-oxford.html
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December 14, 2009

Not So Fast on FAST, Say Transfer Agents

As a registered clearing agency and self-regulatory organization, the Depository Trust & Clearing Corp. (DTCC) in New York is required to ask the Securities and Exchange Commission for permission to make even the smallest changes in rules on clearing and settling trades as they affect its members.

DTCC, parent to the Depository Trust Company, the U.S. central securities depository, typically receives approval for its requests within a few months of an application to change a rule. Approval almost always comes after the SEC has a chance to review comments from industry players.

Well, almost always.

It’s been about three years since the DTCC requested the SEC approve new – and more stringent -- guidelines for transfer agents wanting to participate in a DTCC-operated program called Fast Automated Securities Transfer (FAST).

DTCC did receive approval from the SEC for rule changes to the FAST program in June 2009, but it can’t implement them because the Securities Transfer Association, the trade group for 150 U.S. transfer agents representing 100 million registered shareholder accounts, is mounting a fierce lobbying campaign against them on the basis the agents should not be regulated by the DTCC. Such regulation would require the transfer agents to buy insurance, which the DTCC says, would protect “against the risk of loss” for securities in the transfer agent’s control.

Transfer agents are required to join the FAST program to administer the accounts of investors in corporations who hold their shares in direct registration form.

Established in 1975, the FAST program allows transfer agents to eliminate the transfer of equities certificates between themselves and DTC. Investors opting for direct registration ownership of shares can hold their shares on the books of issuers directly without holding a certificate. The issuer records an investor’s ownership position in the investor’s actual corporate or personal name.

Alternatively, the more popular nominee-name ownership or Street-name ownership, as it’s often called, allows investors to hold accounts in the name of a financial intermediary. The issuer only knows that a bank or brokerage firm owns its shares.

If adopted, the changes to the FAST program, would be the first since its introduction. Transfer agents participating in the FAST program hold securities in the form of balance certificates registered in the depository's nominee name, such as Cede & Co. FAST now has 120 transfer agents servicing 1.1 million stock issues.

On Nov.20, the STA filed a petition with the SEC asking its five commissioners to overturn the approval given by the Division of Trading and Markets, the SEC unit responsible for overseeing transfer agents.

“Such petitions are rare for organizations to file,” admits Edward Pittman, an attorney in the Washington, D.C. office of Dechert LLP representing the STA. “However, there is a fundamental difference of opinion between DTCC and the STA over who should oversee transfer agents.”

Transfer agents oppose the DTCC’s proposed requirements that they carry insurance--either a financial institution bond or a commercial crime policy. DTC wants agents with less than 25,000 transfers a year to have $10 million in insurance, and those with more to carry $25 million in insurance. Transfer agents must also carry at least $1 million in errors and omissions insurance and show proof when applying to the program. Transfer agents must also provide the depository with a copy of their two most recent examination reports from the SEC, as well as any follow-up correspondence and notice of "deficiencies" discovered by the regulator. DTCC separately must have the right to visit and inspect the facilities of transfer agents, as well as their books and records.

The STA says that transfer agents aren’t members of the DTCC, as are brokerages and banks. Therefore, the DTCC has no business regulating them. Transfer agents are already overseen by the SEC under Rule 17A(d) of the Securities and Exchange Act of 1934, according to the STA.

The DTCC counters that it can impose the new rules for its FAST program and transfer agents must abide by them if they want to participate in the program. According to the DTCC, transfer agents are acting as custodians for jumbo certificates representing FAST-eligible equities Because the FAST program eliminates the risks and costs related to the reregistration and movement of securities certificates between transfer agents and the DTCC it increases the efficiency of the nation’s clearance and settlement system.

In a statement issued to Securities Industry News, Edward Kelleher, director of communications for the DTCC, said that the DTCC is not trying to regulate transfer agents but has “taken steps to safeguard the assets entrusted to DTCC by its bank and brokerage participants.” Kelleher called the DTCC’s new insurance requirements the “type of safeguards most responsible businesses maintain.”

In a Dec. 1 letter to the SEC, Gregg Mashberg, co-head of Proskauer Rose’s litigation and enforcement group, also noted that the DTCC’s proposed changes are “necessary to maintain the safety and soundness of the securities held by transfer agents as custodian for DTC in the Fast program.”

Mashberg said that the new rules for participation in the FAST program don’t set any general national standards for transfer agents, but only requirements for those seeking to join the FAST program. “These rules do nothing to limit the Commission’s ability to set national standards for transfer agent registration and regulation and are an appropriate use of the Commission’s authority to promote the implementation of an efficient national system of clearance and settlement of securities transactions,” he wrote.

The SEC’s commissioners could revise the DTCC’s request and put it out for public comment again. Or the agency could reverse the decision made by its Division of Trading. Pittman declined to comment on any further legal action the STA could take if the SEC declined its petition or speculate on when the SEC would make its ruling. In the meantime, transfer agents joining the FAST program are exempt from fulfilling the new requirements which include additional insurance and DTCC oversight.

The proposed upgrades to FAST follow new listing requirements imposed by the New York Stock Exchange, American Stock Exchange and Nasdaq Stock Market to further reduce the number of equity certificates in circulation. As of Jan. 1, 2008, all U.S.-listed companies and Canadian dually listed companies must allow their investors the ability to hold shares in direct registration format. Such an option has existed since 1995.

Since DTC first proposed changes to the FAST system in October 2006, the organization has filed three amended versions with the SEC while transfer agents sent negative comment letters both individually and through the STA. The American Bankers Association has also voiced its disapproval with the DTC’s rule change.

“Congress did not choose to subject transfer agents to oversight by a self-regulatory organization, such as DTC.

Transfer gents are not members of DTC. Nor are transfer agents afforded the same rights and benefits generally available to members of DTC,” wrote Pittman in his letter to the SEC. “Congress intended the Commission, in collaboration with the appropriate bank regulators, to set the regulatory standards for transfer agents.”

His comments were echoed by Charles Rossi, executive vice president of transfer agent Computershare, one of the U.S. largest transfer agents. “The DTC’s rules apply only to its members and we aren’t member of DTC,” says Rossi.

Rossi declined to specify how much the new requirements would cost transfer agents but the STA has previously indicated there would be financial burdens on smaller transfer agents.

One Midwest transfer agent contacted by Securities Industry News estimated the cost could come to anywhere from $50,000 to $100,000 annually. That’s small change for a global transfer agent the size of Melbourne-headquartered Computershare which pulled in $1.5 billion a year in revenues. But smaller independent recordkeeping shops would find it hard to absorb the additional expense which they would likely not be able to pass along to their issuer customers. Some say they could go out of business or be forced to sell out to larger players.

Article Source: www.securitiesindustry.com

September 17, 2009

SEC Investor Advisory Committee Forms Subcommittees to Tackle Ambitious Agenda on Behalf of Investors

Washington, D.C., Sept. 15, 2009 — The Securities and Exchange Commission's newly-formed Investor Advisory Committee today announced that three subcommittees have been formed to address specific categories of regulatory issues as the Committee tackles its wide-ranging agenda. The subcommittees will focus on investor education, investor protection, and shareholder voting and corporate governance.

The SEC's Investor Advisory Committee was formed by SEC Chairman Mary L. Schapiro to give investors a greater voice in the Commission's work. Richard Hisey from AARP Financial and Hye-Won Choi from TIAA-CREF co-chair the Committee in consultation with SEC Commissioner Luis A. Aguilar, who serves as the Committee's sponsor and chief liaison to the Commission.

"The Committee has identified three important and timely broad subject areas to delve into, and the Commission looks forward to receiving its perspectives," said Chairman Schapiro. "Investor views are integral to the SEC's mission, and the work of these subcommittees will greatly inform the SEC's regulatory agenda."

Commissioner Aguilar added, "The Investor Advisory Committee has decided to form three subcommittees focused on key issues of concern to investors. Investors are engaged in the capital markets in many ways, including as purchasers and shareholders, and these subcommittees will assist the Committee to examine and make recommendations on issues across this spectrum. This is critical work and I look forward to seeing the subcommittees in action."

The three subcommittees are:

An Investor Education Subcommittee chaired by Dallas Salisbury (President and CEO, Employee Benefit Research Institute) plans to focus on matters related to financial literacy, the efficacy of layered educational resources that may permit investors to access information at varying levels of detail reflecting their needs, the ways that issuers and boards of directors communicate with investors, and the types of technology that can be utilized for education.

An Investor as Purchaser Subcommittee chaired by Mercer Bullard (Founder and President of Fund Democracy, Inc. and Associate Professor of Law, University of Mississippi School of Law) expects to examine the needs of investors when they purchase specific products (mutual funds, hedge funds, money market funds) and services (brokerage, investment advisory, and financial planning). This subcommittee also will consider the fiduciary duty owed to investors by those who provide investment advice, as well as issues related to pre-sale and other disclosure, intermediary fees and compensation practices, arbitration, and technology.

An Investor as Shareholder Subcommittee chaired by Stephen Davis (Executive Director of Yale School for Management's Millstein Center for Corporate Governance, and board member of Hermes Equity Ownership Service) intends to review proxy solicitation and disclosure issues, proxy voting and process (including the role of proxy advisory firms), majority voting, Regulation FD, executive compensation practices, the responsibilities of shareholders, international issues, and technology related to shareholder communications and voting.

The SEC's Investor Advisory Committee plans to hold its next meeting in early October.

A new Web page with more information about the work of the SEC's Investor Advisory Committee is available at http://www.sec.gov/spotlight/ investoradvisorycommittee.shtml

June 18, 2009

Summary Results Shareholder Bill of Rights

Completed on June 5, 2009

As part of our effort to represent the collective voice of our corporate clients, we recently commissioned Opinion Research Corporation to help us ask leaders of our listed companies for their views on two proposals being discussed by policymakers. One is the Obama Administration’s proposal to change the tax “deferral” rule applicable to multinational corporations; the other is the Shareholder Bill of Rights Act of 2009 proposed by Senator Charles Schumer on May 19, 2009.

There will likely be a number of significant changes to our capital markets in the next several years, and we believe that it is vitally important to facilitate an open dialogue on the issues and initiatives that promise to shape the future. A summary of the survey results is presented below.

* 87% oppose and 6% favor federal legislation that requires shareholder advisory votes on executive compensation

* 82% oppose and 7% favor federal legislation to require shareholder proxy access, while 76% oppose and 10% favor the proposed 1% ownership level threshold for proxy access

o Among those who are opposed, 49% oppose and 31% favor a 5% level for proxy access, 55% oppose and 27% favor a 10% level for proxy access

* 76% oppose and 16% favor federal legislation that mandates separation of the CEO and Chairman roles

* 90% oppose and 4% favor federal legislation that precludes the CEO or a former CEO from ever serving as Chairman, even after retirement as a company executive

* 63% oppose and 25% favor federal legislation to mandate that all board members stand for re-election each year

* 45% oppose and 43% favor federal legislation requiring that in uncontested elections, board members must receive a majority of the votes cast

* 66% oppose and 19% favor federal legislation that requires companies to establish a risk committee

* 73% currently have as part of the audit committee independent directors responsible for their company’s risk management practices, while 10% have a separate committee

* 81% oppose and 4% favor the Shareholder Bill of Rights Act of 2009

o 51% indicated that the Act would “greatly” or “somewhat” impair the company’s position with respect to their international competitors, while 24% and 2% say it would have “no impact” or “enhance” their competitive position, respectively

o 90% say the Shareholder Bill of Rights Act of 2009, if enacted, will “significantly” or “somewhat” increase their costs as a public company, with 3% citing no effect

* Regarding the Obama Administration’s tax proposal to reform the "deferral" rule, which lets U.S.-based multinational companies deduct expenses for overseas operations, but defer paying income tax on the profits from those operations; the Administration has proposed that the companies must defer taking their deductions until their overseas profits are repatriated. The Obama Administration estimates that this change will raise $60.1 billion in revenue over 10 years.

o 49% oppose and 17% favor the proposal to change the deferral rule, with 34% having no opinion at this time

o 66% say that the enactment of this proposal would not cause their company to eliminate jobs overseas and increase jobs in the U.S., while 2% say jobs would be lost and 32% “don’t know”

o 47% believe that its enactment would not cause their company to eliminate U.S. jobs, while 16% say U.S. jobs would be lost and 37% don’t know.

o 46% believe that its enactment would “greatly” or “somewhat” impair their competitive position with respect to their international competitors, while 28% say “no impact”, 24% “don’t know” and 2% say “somewhat enhance”

o 57% say its enactment would not cause them to consider moving their company’s headquarters out of the U.S., while 15% say “yes” they would consider moving outside the U.S. and 18% “don’t know”

April 27, 2009

James Brigagliano, Daniel Gallagher Named Co-Acting Directors of SEC Division of Trading and Markets

Securities and Exchange Commission Chairman Mary Schapiro today named James Brigagliano and Daniel M. Gallagher as Co-Acting Directors of the SEC's Division of Trading and Markets, replacing Erik R. Sirri, who left the agency on April 24.

Brigagliano and Gallagher are currently Deputy Directors of the Division, which oversees the Commission's programs related to securities and options exchanges, brokers, dealers, clearing agencies, transfer agents, and, since 2007, credit rating agencies.

"Jamie and Dan are both skilled leaders who can be counted upon to provide wise counsel in the oversight of trading practices and market regulation," said Schapiro, who became SEC Chairman in January. "I look forward to working closely with both of them to protect investors and restore confidence in the marketplace."

Mr. Brigaliano is a 20-year SEC veteran who joined the Division in 1998. He has managed oversight of trading practices, including rules regulating short sales and market manipulation. Previously, Mr. Brigaliano served in the SEC's Office of General Counsel, representing the Commission in a wide range of matters in federal district and appellate courts. Mr. Brigaliano received his law degree from Georgetown University and undergraduate degree from Amherst College.

Mr. Gallagher was named Deputy Director of the Division in 2008 after working on market regulation and enforcement matters as a counselor to former SEC Chairman Christopher Cox and former SEC Commissioner Paul S. Atkins. In those capacities, Mr. Gallagher worked on major rulemakings including the implementation of the Credit Rating Agency Reform Act and several broker-dealer initiatives. Mr. Gallagher was formerly the General Counsel of a clearing broker-dealer, and he began his career in private practice advising clients on broker-dealer regulatory and enforcement matters. Mr. Gallagher earned his J.D., magna cum laude, from the Catholic University of America, and he received his undergraduate degree from Georgetown University.

April 3 ,2009

*Uptick Rule Review Letter to the Chairman of the SEC

Read the Letter

October 8, 2008

Financial Innovation: Wall Street’s False Utopia

In the popular media much of the blame for the current crisis lies with sub-prime mortgages. Yet the main culprit was not the gullible homebuyer in Stockton or the seedy mortgage company. The real problem lay on Wall Street, and it’s addiction to ever more arcane financial innovation. As we try to understand the current crisis, and figure ways out of it, we need to understand precisely what, in the main, went wrong.

I have studied financial innovation for years and worked with some of the best minds in that business. In 2003, I wrote in Beyond Junk Bonds that financial innovation is the “engine driving the financial system toward improved performance in the real economy”. Innovative debt securities, like collateralized mortgage obligations (CMOs), I had hoped, would add value to the economy by reallocating risk, increasing liquidity, and reducing agency costs. Like the broken promises of communism, it turned out to be a utopia that was not achieved.

CMOs were designed to diversify risk by shifting risk to larger, better capitalized and diverse institutions. Traditionally, a bank in Riverside, California would write and hold the mortgages for homes in the area. Then, if some negative shock impacted jobs and income in the area, that bank would have to absorb all of the resulting defaults. This would put the local bank at an inordinate risk. With CMOs, the risk would be spread out across banks and investors in a broader geographic area. Since CMOs could be held internationally, even a nationwide economic downturn might have little impact on any single mortgage holder.

Unfortunately, the dealmakers sold the riskiest pieces to a few hedge funds, thereby consolidating the risk rather than allocating it broadly. The result was the spectacular crash of Bear Stearns and the incendiary damage done to a slew of US and international financial institutions.

CMOs were supposed to produce more money available for lending to homeowners than would otherwise have been the case. Instead it produced more paper, more heavily leveraged and less secure. Securitized mortgages were misused to the extent that $45 trillion in bonds were issued on $5 trillion in assets; it's as if someone bought insurance for 9 times the value of the house. By 2007, the market was over-sold: more bonds had been sold than could be delivered, possibly even more than had been issued. On average, nearly 20% of CMO trades have failed to settle since 2001, driving down the price of the bonds.

CMOs should have been used to protect against conflicts of interest between managers, stockholders and bond holders (agency costs). Instead, the same companies that issued the CMO were buying large positions in the securities. Most CMOs are typically initiated by banks seeking to remove credit risk from their balance sheets while keeping the assets themselves. Normally, these securities are issued from a specially created company so that the payments from the riskiest borrowers, i.e. the sub-prime mortgages, can be separated from the more credit-worthy payees. A trustee and a portfolio manager receive fees from the newly created company.

While CMOs reduced some of the risk to the local banks, it also led some of those banks to lend imprudently. With the cash flowing easily back to the banks after the CMOs were sold, some lenders became increasingly risk-seeking – the opposite of the intended purpose of CMOs. Companies like Bear Stearns, who acted as trustee and portfolio manager for the CMOs, also purchased the CMO securities (usually through a subsidiary hedge fund).

Critically missing from the market for CMOs was the lack of a standard for the issuance. In more than one case, when a CMO investor attempted to foreclose on a property for mortgage delinquency, courts found insufficient documentation to support the CMO’s lien on the property. Without legally binding “receipts” of ownership, CMOs have had insufficient real backing --- producing results we are still trying to cope with.

Sure, sub-prime mortgage defaults were the straw that broke the camel’s back. But Bear Stearns was in financial difficulty three to six months before the sub-prime mortgage default rate spiked. The real fundamental problem lay in the multiple sales of mortgages through CMOs – the result of too much faith in financial innovation. Experts believe that, for every $1 of mortgage that defaulted, the investment banks fell behind as much as $15 in payments on the CMOs. These, not the actual mortgages of homeowners, represent the bulk of the securities that Treasury Secretary Paulson wants $700 billion to buy.

Susanne Trimbath, Ph.D. is CEO and Chief Economist of STP Advisory Services. Dr. Trimbath’s credits include appearances on national television and radio programs. Dr. Trimbath is a Technical Advisor to the California Economic Strategy Panel and Associate Professor of Finance and Business Economics at USC’s Marshall School of Business. Dr. Trimbath was formerly Senior Research Economist at the Milken Institute and Senior Advisor on the Russian capital markets project for KPMG. http://www.newgeography.com/content/00305-financial-innovation-wall-street%E2%80%99s-false-utopia

October 6, 2008

Jim Eastman Named Chief Counsel in Division of Trading and Markets

FOR IMMEDIATE RELEASE 2008-240 Washington, D.C., Oct. 6, 2008 - The Securities and Exchange Commission announced today that James L. Eastman has been named Chief Counsel and Associate Director in the Division of Trading and Markets.

Erik Sirri, Director of the Division of Trading and Markets, said, "We're eagerly anticipating working with Jim in his new role as Chief Counsel. His keen intellect, breadth of experience, and consensus-building style will be invaluable to us as we seek innovative approaches to protecting investors and keeping our markets vibrant and healthy in these critical times."

The Division of Trading and Markets Office of Chief Counsel renders legal advice and interpretations on provisions of the Securities Exchange Act of 1934 and related Commission rules. The Office of Chief Counsel also prepares and analyzes legislation that would amend or impact the Act and serves as liaison to Congressional committees and subcommittees as well as other federal and state government agencies.

Mr. Eastman said, "I am delighted to be joining the distinguished staff of the Office of Chief Counsel for whom I have deep respect and admiration. I am looking forward to serving in the Division at a time when our nation's investors and markets face unprecedented change and challenges as well as significant opportunities."

Mr. Eastman has served as a counsel to SEC Chairman Christopher Cox since 2007, advising him on legal and policy issues arising in the Trading and Markets and Enforcement areas. From 2004 to 2007, Mr. Eastman served as an Assistant General Counsel at FINRA, where he assisted in advising FINRA's Board and senior management on policy responses to emerging regulatory issues, and he prepared rules and provided interpretive advice on a range of issues. Mr. Eastman previously was an Associate for four years in Schiff Hardin's Securities and Futures Regulation Group, and he served for three years at the SEC, first as Senior Counsel in the SEC's Office of the General Counsel and then for two years as counsel to the late Commissioner Paul Carey. Mr. Eastman began his legal career at Covington & Burling.

Mr. Eastman earned his J.D., cum laude, from Harvard Law School in 1995 where he was an Earl Warren Legal Training Scholar and served as a Teaching Fellow in Harvard University's introductory economics program. He graduated from the University of Maine in 1992, with a B.A. in Economics, Highest Honors, Highest Distinction.

Mr. Eastman's appointment will be effective Oct. 13, 2008.

June 6, 2008

DRS Growth Continues With More than 7,500 DRS-Eligible Issues

More than 200 new issues have become eligible for a direct registration system (DRS), boosting the number of DRS-eligible issues to more than 7,500. This growth follows the new listing standards adopted by the exchanges – New York, Nasdaq and the American as well as the regional exchanges – whereby all listed issues had to be eligible by March 31, 2008 to participate in a system such as The Depository Trust Company’s (DTC) Direct Registration System (DRS). By the March 31 deadline, more than 7,300 issues in circulation became DRS-eligible.

“It is apparent that issuers recognize the benefits of DRS, providing the ownership option to investors as it provides their shareholders with the best possible services,” said Jim Femia, managing director of DTCC Securities Operations group.

DRS helps eliminates the inherent risk and additional cost of paper certificate processing by providing for direct electronic registration of eligible securities in an investor’s name on the books of an issuer. The advantages of DRS include more accurate, quicker and most cost-efficient transfers, faster distribution of sales proceeds and a significant reduction in the number of lost or stolen certificates.

Article Source: www.dtcc.com

December 14, 2007

SEC Plans to Delay Implementation of Sarbanes-Oxley § 404(b) Rules for Small Companies Until 2009

On December 12, 2007, Christopher Cox, Chairman of the Securities and Exchange Commission (the "SEC"), testified before the House Small Business Committee. Mr. Cox proposed an additional one-year delay in implementing the requirement for non-accelerated issuers (small public companies generally consisting of those with market capitalizations of less than $75 million) to provide an auditors report on the state of their internal financial controls under Section 404(b) of the Sarbanes-Oxley Act ("Section 404(b)"). The additional delay would mean that non-accelerated issuers would have to implement the reporting requirements of Section 404(b) for fiscal years ending on or after December 15, 2009.

In his testimony, Mr. Cox indicated that the decision on whether to require compliance with the requirements of Section 404(b) would be based at least in part on an economic study of the new auditing standard and management guidance developed by the SEC and the Public Company Accounting Oversight Board ("PCAOB") in Auditing Standard Number 5. The study is expected to be completed by the SEC no later than June 2008. The full Commission must still approve the delay in Section 404(b) implementation. Absent Commission approval, non-accelerated issuers would be required to implement the reporting requirements of Section 404(b) for fiscal years ending after December 15, 2008. This delay does not affect the timing of the requirement of management to comply with the requirements of Section 404(a) of the Sarbanes-Oxley Act to deliver an internal control report which states the responsibility of management to maintain an adequate internal control structure and procedures for financial reporting, and an assessment of the effectiveness of the internal control structure and procedures for financial reporting for fiscal years ending on or after December 15, 2007.

Mr. Cox's testimony indicates that the delay in implementing Section 404 compliance is one of several steps the SEC has recently taken to mitigate the economic impact of government regulation on small business as part of a focus to "ensure that the benefits of regulation for smaller companies under the federal securities laws outweigh the costs." The SEC intends to lower regulatory compliance costs for companies of all sizes, but "disproportionately for small business because the new SEC guidance...will allow each small business to exercise significant judgment in designing an evaluation [of its internal controls] that is tailored to its individual circumstances."

Article Courtesy of DuaneMorris.com

November 21, 2007

Phantom Shares

By: Jonathan E. Johnson III

In the late 1800s, American financier Daniel Drew refined the art of selling counterfeit shares. Drew's biographer wrote, "There is no limit to the amount of blank shares a printing press can turn out. White paper is cheap... printer's ink is also cheap." Today, it is possible to counterfeit shares electronically — and it happens with such frightening regularity and impunity that Drew would be proud.

In modern stock markets, stock ownership has been separated from stock certificates through a process known as "dematerialization." As a result, when investors buy or sell stock, they are actually trading "security entitlements" — not actual stock certificates.

The Securities and Exchange Commission's Division of Market Regulation Director Erik Sirri explains: "The beneficial owner's [i.e., the investor's] ownership cannot be tracked to a specific share... [T]hey own a bundle of rights defined by federal and state law and by their contract with the broker. ... That's news to a lot of people." News indeed.

Brokers in U.S. equity markets receive commissions when buyers pay for shares, not when sellers deliver those shares. Thus, incentives to deliver share are so weakened that some brokers and large institutional customers (e.g., hedge funds) regularly use loopholes to avoid delivering shares at all. The result is a "failure-to-deliver" (FTD).

FTDs can be caused in several ways, but they commonly result from short sales in which the seller does not borrow or even locate the stock he sells (the infamous "naked" short sales). Regardless of how an FTD occurs, for each share not delivered the system creates a "phantom" entitlement the market treats as a real share. These "phantom shares" are supposed to be temporary in duration and few in number. Loopholes, however, are exploited on such a scale, and phantom shares are so persistent, they are corrupting the U.S. equity markets in three ways.

(1) Phantom shares warp corporate governance by inflating the number of voting shares. Bob Drummond (Bloomberg Markets) reported in April 2006, "The results of high-stakes company decisions may hinge on the invisible influence of millions of votes [i.e., phantom shares] that shouldn't be counted." In an analysis of 341 corporate votes in 2005 by the Securities Transfer Association, there was evidence of overvoting in all 341 cases.

(2) Phantom shares distort share prices by flooding the market with excess supply. In July 2006, SEC Chairman Christopher Cox said "abusive naked short sales ... can be used as a tool to drive down a company's stock price to the detriment of all of its investors." The creation and sale of phantom shares has become a common means to manipulate share prices in U.S. equity markets.

(3) Phantom shares create systemic risk. According to the Depository Trust and Clearing Corp. (DTCC), on any given day "fails to deliver and receive amount to about $6 billion daily ... or about 1? percent of the dollar volume." Bradley Abelow, a former DTCC director, says FTDs within the settlement system "occur as a matter of course with great regularity," and calls them "endemic." The stock market has turned into a game of "musical chairs" where claims of ownership exceed shares issued. What happens when the music stops?

In a weak attempt to curb abusive naked short selling and reduce outstanding FTDs, the SEC implemented Regulation SHO in January 2005. Regulation SHO requires the stock exchanges to publish daily a list of "threshold securities" — companies that through no fault of their own have FTDs in excess of 0.5 percent of their outstanding shares. More than 6,000 companies have appeared on these Threshold Lists — many for hundreds of consecutive trading days. For these companies, Regulation SHO does not work.

Freedom of Information Act (FOIA) data received from the SEC reveal that FTDs have been as high as 10 percent of the average daily trading volume on the New York Stock Exchange and Nasdaq. FOIA data also reveal that, for many companies, FTDs are a significant portion of their total shares outstanding — in at least one case more than 45 percent.

Economists, the U.S. Chamber of Commerce, members of Congress, public companies, and hundreds of informed investors have urged the SEC to adopt a G.O.L.D. standard: G, eliminate Regulation SHO's Grandfather clause; O, eliminate Regulation SHO's Options market maker exception; L, require short-sellers to Locate and borrow shares before selling them; and D, require the exchanges to Disclose fully and promptly the aggregate FTDs for every Threshold List company.

To its credit, the SEC is working to fix two significant loopholes in Regulation SHO by eliminating the grandfather clause (final phase-in on Dec. 3, 2007) and by proposing to eliminate the options market maker exception (proposed, but not yet adopted).

However, these half-measures will not stop the creation of phantom shares. Will the SEC finish the job? That remains to be seen. According to a recent Senate Judiciary Committee report, the SEC is riddled with conflicts of interest that prevent it from properly policing brokers who are guilty of securities crimes. If the SEC does not act to protect investors, it falls to Congress to adopt the G.O.L.D. standard and bring an end to market distortion caused by phantom shares.

Jonathan E. Johnson III is senior vice president of corporate affairs and legal at Overstock.com Inc., a Nasdaq-listed firm on the Regulation SHO Threshold List for 642 consecutive trading days and counting.

Article Courtesy of The Washington Times

July 26 , 2007

SEC Advances Alternate Proposals on “Proxy Access”

Reiterating his intention to have in place in advance of next proxy season a clear, unambiguous rule regarding whether and how shareholders can have greater access to nominating directors to a corporation’s board, SEC Chairman Christopher Cox proceeded to put to a vote before the Commission yesterday two dramatically different proposals on so-called “proxy access.” For more detailed information in filed comment letters, refer to the SEC website.

January 23, 2007

The SEC Issued a Final Ruling

The SEC has issued a final rule that allows proxy materials to be furnished via the Internet on a voluntary basis following the ''Notice and Access'' model. There is also a proposed rule that would mandate the availability of proxy materials on the Internet at a future date. Links to the text of these rules are available on the homepage of the STA website, www.stai.org.

August 21, 2006

SEC Approves Exchange Rule Filings Mandating DRS

The SEC has approved recent rule filings by the NYSE, NASDAQ, and AMEX which will require new securities listed on any of these Exchanges to be DRS eligibleeffective Jan 1, 2007, and existing listed securities to follow suit effective Jan 1, 2008. To read these filings in their entirety, go to the STA website, www.stai.org and click on the link at the top center of their home page.