In Case You Missed It - Interesting Items for Corporate Counsel - April 2016

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  1. Lest you think the pending U.S. Supreme Court nominee is the only nominee-casualty of partisan politics, the Wall Street Journal reports, here, “a revolt” by U.S. Senate Democrats to block the appointment of two Obama SEC Commissioners until, and admittedly we’re a little hazy here, either the SEC proposes rules that require public companies to disclose political spending or the nominees commit to doing so. What mandate, you may be thinking, does the SEC have to require campaign spending transparency by public companies, at least if they aren’t financially material or directly tied to risk? Well, none, really. But that’s not to say such disclosure won’t eventually go on the pile of burdensome guck placed on public companies when substantive law-making fails.
  2. Despite occasionally making public company disclosure a dumping ground for failed law-making, Congress also occasionally wrings its hands over the smooth functioning of capital markets and over eliminating barriers to raising money and to investing, the preferred way to get rich quick in America. The U.S. House-passed H.R. 2187, here, which now sits in the Senate, would expand the definition of “accredited investor” to add a new category based on professional acumen. By far the most-used issuer exemption from registering securities is sales to accredited investors under Regulation D, so any potential change to the definition is therefore a big deal. Also recall that Dodd-Frank requires that the SEC periodically review the accredited investor definition, which for natural persons is based on measures of income and net worth. The first Dodd-Frank report is here and SEC Chair Mary White has suggested, for example here, that rulemaking on the definition is likely, perhaps alluding to the same type of investment acumen standard embodied in H.R. 2187. Also of note, in the same speech, Ms. White mentions “open investigations” into the “reasonable efforts that issuers have to make to determine that who they’re selling to are accredited investors and either just not doing it at all or doing a job that clearly doesn’t pass muster” under Regulation D.
  3. The U.S. Attorney General wrote to the Speaker of the House, here, that the SEC would not appeal to the U.S. Supreme Court the D.C. Circuit Court’s decision in National Association of Manufacturers v. Securities and Exchange Commission, in which it held that the portion of Conflict Mineral Rules that requires a company to declare whether or not its products have been found to be “DRC Conflict Free” is compelled speech that violates the First Amendment. The upshot: the SEC will go back to the drawing board to try to fix this aspect of the rule in a way that is both constitutional and compliant with the Congressional mandate. Despite this setback to fans of the conflict minerals rules, there are suggestions that some companies are taking the use of conflict minerals seriously and using their purchasing power to push suppliers to change, like here.
  4. In PCAOB news:
  • The PCAOB’s latest standard-setting agenda is here.
  • “Staff observations” about auditor communications with audit committees are here.
  • A request for comment on engagement quality review is here.
  • Proposed amendments relating to audits involving other auditors are available here.
  1. And speaking of accounting news
  • The FASB issued an update on stock-based compensation, here.
  • Some speculate that the SEC may act to further restrict the publication of non-GAAP financial measures, see here, and the PCAOB suggests, here, the proliferation of non-GAAP financial measures is a “warning sign.”
  1. Some interesting tidbits this proxy season:
  • The SEC issued additional no-action letters in March that make clearer when a shareholder proxy access proposal has been “substantially implemented” and may therefore be excluded from a company proxy statement under Rule 14a-8(i)(10). The letters, summarized here, suggest at least some permissible deviation from the number of directors shareholders may elect and the number of shareholders who may aggregate holdings as a group to elect directors. Earlier no-action letters suggested that requiring holdings of 5% did not “substantially implement” a proposal requesting a 3% threshold.
  • Reliance on Rule 14a-8(i)(10) to counter proxy access proposals gained traction when the SEC limited the use of Rule 14(a)-8(i)(9) for that purpose, stating that exclusion of a shareholder proposal is only permitted if “a reasonable shareholder could not logically vote in favor of both proposals.” An SEC no-action letter, here, suggests that an acceptable tactic under 8(i)(9) may be to propose that shareholders ratify through an advisory vote the status quo, irrespective of the shareholder proposal. By definition, a vote not to change directly conflicts with a shareholder proposal to change. (Clever. Oh, so clever.)
  • The SEC issued a CD&I, here, reminding public companies that vague descriptions of shareholder proposals (like “Shareholder Proposal”) on a proxy voting card are not cool.
  1. The U.S. Treasury issued temporary regulations on April 4, here, designed to eliminate the tax benefits of “inversions” and to blow up the Pfizer transaction (see here). At the same time, the Treasury proposed regulations, here, to constrain intercompany debt transactions, which inverted companies can use to reduce U.S. income tax liability, generally through issuance to the related foreign entity of a debt obligation. (The interest is deducted by the U.S. entity and taxed to the foreign entity at a lower rate.) The proposed regulations would recharacterize these types of “earnings-stripping” loans as equity, thus eliminating the tax benefit of deducting interest payments for U.S. tax purposes. The proposed regulations have an effective date that is retroactive to April 4. Although targeted at inversions, the broad scope of proposed regulations cover more than earnings-stripping, including cross-border lending, debt-push downs in connection with mergers and acquisitions, and the issuance of some types of related party debt. The proposed rules:
  • Treat certain related-party debt as equity, including intra-group loans with no cross-border facet.
  • Impose record maintenance requirements for some instruments to be respected as debt.
  • Allow the IRS to treat instruments as part debt and part equity, rather than wholly one or the other.

The proposal rules were unexpected and are significant, so expect many comments and criticisms over the next few weeks. Treasury’s summary of the temporary regulations and the proposed new rules is here . External commentary is here, here, here, here, here, here, here and here. For some history on debt-equity regulations from the last time regulations were proposed under IRC Section 385, way back in 1982, see here.

  1. Finally, some editorializing on Oregon’s Initiative Proposal 28 (IP28), which likely will appear on November’s ballot. (Fair warning: I hate Oregon’s initiative system and tire of those who lecture on the merits of direct democracy, as if people with day jobs have the time, inclination or insight to make sense of sometimes silly but often monumentally significant one-off, out-of-context changes to complex legal codes. Let me also admit, as Oregon balances on a two-legged tax stool that topples every few years, that I am a fan of implementing a broad-based sales tax. That’s right, I said it.) IP28 would replace the upper tiers of Oregon’s version of the alternative minimum corporate tax to require that a C-corporation with more than $25 million in Oregon sales pays 2.5% on the excess. From proponents of IP28, Oregon voters will soon hear that the tax is only levied against corporations, which we all know from Bernie Sanders are evil, and, in any case, only against really rich corporations who have the temerity to sell more than $25 million worth of stuff to Oregonians! (The gall!) Besides, proponents will continue, it funds stuff people really like, like schools and puppies. Ads in opposition will say simply “It’s a sales tax!” IP28 is a tax on “Oregon sales,” so yes, it’s a sales tax. And while I think I’ve been open about my love of sales taxes, this one stinks. It’s dishonest because it’s invisible to customers at the cash register, and it’s unfair because it applies differently to companies in the same industry. For example, Whole Foods would pay the tax because it’s a C-corporation but New Seasons would not because it’s a limited liability company. The tax is particularly bad for low-margin C-corporations, like grocery stores and other retailers, because it’s based on sales and not profit. And unlike a typical sales tax that is charged only on the final retail sale (and that also, by the way, often exempts necessities like food), IP28 applies when a C-corporation manufacturer sells goods to an Oregon retailer and also when the C-corporation retailer sells those goods to a customer. For some, IP28 may make it simply unprofitable to do business in Oregon. It’s such a bad idea.

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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