Recent SEC Action Brings Fresh Focus to Material Non-Public Information in the Share Repurchase Context

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On October 15, 2020, the Securities and Exchange Commission (SEC) announced the settlement of an internal controls case related to share repurchases by an issuer in possession of material non-public information.1 This the first case of its type brought by the SEC in many years, and it is set against a backdrop of share repurchases being a frequent occurrence for many companies. It provides important reminders that the SEC 1) is monitoring share repurchases and 2) will bring actions—with potentially meaningful penalties—even where the company is not found to have violated the antifraud provisions (such as Rule 10b-5) of federal securities laws.

What Happened?

In 2015 and 2016, the board of directors of Andeavor authorized a $2 billion share repurchase program. This program was to be executed in accordance with Andeavor's policy prohibiting repurchases when the company was in possession of material non-public information. In October 2017, Andeavor and Marathon Petroleum Corporation (Marathon) temporarily suspended acquisition discussions that had been ongoing for some time, with Andeavor's chief executive officer believing that discussions would resume in several months. In February 2018, Andeavor's chief executive officer instructed the company to enter a $250 million Rule 10b5-1 trading plan to carry out the repurchases; at the time, he was scheduled to meet with Marathon's chief executive officer in the coming days in order to resume acquisition discussions. Andeavor entered the trading plan on the same day that the two chief executives met, with the repurchases occurring in February and March 2018. The renewed acquisitions discussions ultimately led to Andeavor's acquisition by Marathon in April 2018.

The SEC found that Andeavor's legal department approved the entry into the trading plan based on a deficient understanding of all relevant facts and circumstances of the discussions between Andeavor and Marathon. This deficient understanding was the result of insufficient internal accounting controls, which controls could not provide reasonable assurance that the buyback would be undertaken in accordance with the authorization of Andeavor's board. More specifically, the SEC found that Andeavor's internal process did not require conferring with persons reasonably likely to have potentially material information regarding significant corporate developments prior to approval of share repurchases. As a result, Andeavor's chief executive officer—who was the primary negotiator with Marathon—was not consulted about the prospects that Andeavor and Marathon would agree to a deal prior to Andeavor's legal department approving entry into the trading plan. Because of this deficiency, Andeavor "failed to appreciate that the probability of Marathon's acquisition of Andeavor was sufficiently high at the time as to be material to investors."

To settle the action, Andeavor (now a subsidiary of Marathon) agreed to pay a $20 million penalty and to cease and desist from future violations of the Securities Exchange Act of 1934.

What Are the Key Takeaways?

  • Companies need to consider whether they are in possession of material nonpublic information when they engage in repurchases (not merely when they are selling securities). Whenever a company is considering a public offering, it invariably undertakes a detailed process analyzing its disclosures and whether it has material information that should be disclosed. Share repurchases are much more likely to be on autopilot and not entail that kind of rigorous analysis. The SEC's action is a call to companies to be more deliberate when engaging in repurchases.
  • Exercise caution when undertaking any trading when a material event is more than remote. A careful analysis of the facts and circumstances is required whenever trading (including through the entry into Rule 10b5-1 plans) is to be undertaken when the company is in discussions relating to a material transaction. The SEC repeatedly noted that Andeavor's chief executive officer believed that acquisition discussions had only been paused—as opposed to terminated—and that Andeavor carefully monitored market conditions that would prompt Marathon to return to the negotiating table. In addition, Andeavor's board expressed support for resuming acquisition discussions as recently as several days before Andeavor entered the trading plan. A longer period between entry into a Rule 10b5-1 trading plan and the start of trading (often called a "cooling-off period") can be helpful, but it will not protect the company if there was material non-public information at the time that the plan was implemented.
  • Consider adopting, and regularly reviewing, robust trading policies. This action counsels in favor of the adoption of policies and procedures to ensure adequate consideration of all relevant information in advance of trading. For example, a policy that requires the legal department to interview the company's key executives in advance of entering trading plans—even when it is those executives who are directing the entry into the plan—could provide a helpful safety valve. Particularly in times of remote work, it can be difficult to ensure that all internal stakeholders have the same information without robust diligence policies. Of course, companies need to follow any policies that they put in place.
  • The SEC may draw the line on the materiality of discussions involving the acquisition of a company at an early point in the process. It is frequently the case that acquisition discussions will start and stop, often many times. This action highlights that a company's view of when those discussions may resume—and how likely they are to be successful—can impact the materiality analysis. In addition, the SEC took care to note that "an acquisition need not be more-likely-than-not to occur for it to be material." This action is a helpful data point on the SEC's views on when acquisition discussions ripen to material non-public information.

[1] The SEC’s order can be found here: https://www.sec.gov/litigation/admin/2020/34-90208.pdf.

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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