The Investor Protection, Entrepreneurship, and Capital Markets subcommittee of the House Financial Services Committee ("HFSC") held a hearing to consider six legislative proposals intended to "hold public company executives accountable to both investors and the general public" including:

  • the "Insider Trading Prohibition Act," sponsored by Representative Jim Himes (D-CT), which generally codifies existing federal prohibitions on insider trading and also overturns a requirement from the Second Circuit decision in United States v. Newman where a tippee knew about the "personal benefit" received by a tipper;
  • the "Investor Choice Act of 2019," sponsored by Representative Bill Foster (D-IL), which would (1) prohibit broker-dealers and investment advisers from including mandatory arbitration clauses in customer agreements and (2) prohibit public companies from incorporating mandatory arbitration clauses in their by-laws or other corporate governance documents;
  • the "8-K Trading Gap Act of 2019," sponsored by Representative Carolyn Maloney (D-NY), which would instruct the SEC to promulgate a rule requiring a public company to institute policies designed to bar officers and directors from trading company stock following a determination by the company that a significant corporate event has occurred and before the company files a Form 8-K disclosing the event;
  • a bill to require the SEC to complete the rulemaking required by Exchange Act Section 10D, which directs the SEC to promulgate a rule requiring exchange-traded companies to have policies in place allowing them to recover incentive compensation previously paid to executives, if the compensation paid was due to material noncompliance with financial reporting or accounting rules (the bill would require the SEC Chair to testify before the HFSC once a month until the rule is finalized, if rulemaking is not completed within 60 days of the bill's adoption);
  • a bill to require the SEC to complete rulemaking required by Exchange Act Section 14(i), which directs the SEC to promulgate a rule requiring public companies to disclose executive compensation in annual proxy statements (the bill would require the SEC Chair to testify before the HFSC once a month until the rule is finalized, if rulemaking is not completed within 60 days of the bill's adoption); and
  • a bill, sponsored by Representative Al Green (D-TX), to modify the definition of "whistleblower" in the Exchange Act to clarify that whistleblowers who only report misconduct to their employers - and not the SEC - are protected by the "anti-retaliation provisions" in Dodd-Frank Section 922.

Melanie Senter Lubin, the Maryland Securities Commissioner and a Board Member of the North American Securities Administrators Association, voiced support for all six legislative proposals, highlighting the "Investor Choice Act of 2019." Remington A. Gregg, Counsel for Civil Justice and Consumer Rights at Public Citizen, similarly focused on the Investor Choice Act of 2019 and expressed support for its aims. John Coffee, a Professor at Columbia Law School, generally supported the six legislative proposals, and focused on the Insider Trading Prohibition Act, disclosing that he has "been involved with the drafting of this bill over the last several years . . ." Tom Quaadman, Executive Vice President of the U.S. Chamber Center for Capital Markets Competitiveness, opposed all of the bills except the amendments to the "whistleblower" definition.

Commentary / Steven Lofchie

The name of the hearing, "Hold Executives Accountable," reveals, to unfortunate effect, what you need to know about this hearing and the majority of the proposals. The proposals seem to take a general view that executives are often bad actors, overly compensated, and are not sufficiently liable for corporate wrongdoing under existing law. This general view, and the language in certain of the proposals, could result in a practical effect that the bills give license to regulators and prosecutors to second-guess or otherwise scapegoat "executives" for actions that are a normal part of running a business.

Leaving aside the political intent of the bills, certain of the bills require greater drafting attention. For example, consider the 8-K Trading Gap Bill would require an issuer to prohibit its officers and directors from trading beginning on the date that the issuer possesses material nonpublic information. As a practical matter, (i) it is already illegal for the individuals who possess MNPI to trade on the information (as Professor Coffee and Mr. Quaadmann pointed out) and (ii) it is not the case that every officer and director of an issuer is aware of inside information about the company. Under the bill, an issuer that came into possession of inside information would effectively be required to inform every one of its directors and officers of the existence of that information, so that they could stop trading immediately. That does not seem a good way to safeguard the information; it is more likely to force a company to make overly broad disclosures to its employees before it tells the market as a whole. This result would be inconsistent with good public policy as to the handling of inside information: limit disclosure to those who need to know.

The debate over arbitration over the past few years is well known, with some advocates viewing measures to ban mandatory arbitration as protective of investor rights. However, these measures (including "Investor Choices Act of 2019") would generally favor plaintiffs (and the plaintiffs' bar) and have the effect of facilitating class action lawsuits. Broker-dealers and investment advisers could not enter into any agreement that would in any way restrict, limit or condition the ability of any client to select or designate a forum for the resolution of such dispute. Taking the statute on its face, does that mean a Chinese client could select Beijing as its preferred jurisdiction for dispute? There is nothing inherently absurd about that if the client lives in Beijing, but such a general policy would likely be bad for U.S. firms.

With all of this said, not all of the bills are "gotcha" bills. For example, Representative Green's bill to provide whistleblower protections to employees who first report wrongdoing internally, rather than going directly to the government, is consistent with (i) the internal structure of the whistleblower law as adopted under Dodd-Frank, which offers greater rewards to those whistleblowers who first report problems internally, and (ii) general public policy, which is to encourage corporations to build up strong internal compliance departments that are able to act upon information received from internal sources.

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