The D & O Diary : Directors and Officers Liability and Insurance : The D & O Diary : Kevin LaCroix : Securities Laws, Corporate Fraud, D & O Litigation

Suit Against Auction Rate Securities Investor Dismissed: When plaintiff investors first sued Mind M.T.I. and certain of its directors and officers in the Southern District of New York in August 2009, I noted at the time that the new suit seemed to reflect two securities class action lawsuit filing trends: first, the case presented an example of a "belated" lawsuit filing, where the initial filing came more than a year after the proposed lawsuit date; and second, the case represented another instance where a company’s shareholders had filed suit due to their company’s investment auction rate securities.

The case, however, failed to surmount initial pleading thresholds, and July 2, 2010 was dismissed with prejudice.

Unlike many auction rate securities cases, which typically were brought against the firm that had sold the plaintiffs the securities, this suit (like others, refer here) was brought against a company that had invested in the auction rate securities.

The lawsuit pertained to the company’s 2006 purchase of $22.8 million in auction rate securities. The securities the company purchased were issued by the now-infamous Mantoloking CDO, about which refer here.

The plaintiffs alleged that the defendants "knowingly and recklessly concealed that most of Mind’s reported cash position was comprised of illiquid Auction Rate Securities (ARS)" and that the company’s internal controls for monitoring, accounting and reporting of the Company’s investments in cash equivalents and/or short-term investments were materially deficient." The defendants moved to dismiss on the grounds that plaintiffs’ had not sufficiently pled scienter.

In a July 2, 2010 order (here), Southern District of New York Judge Richard M. Berman, granted the defendants’ motion to dismiss with prejudice, holding that the plaintiffs had failed to allege sufficient facts showing a motive and opportunity for the fraud, and also had failed to alleged facts sufficient to constitute strong circumstantial evidence of conscious misbehavior or recklessness.

In concluding that the plaintiffs had not sufficiently alleged scienter, the court noted that the defendants had argued that the company "rather than acting with scienter, was itself defrauded by its investment bankers into believing its investment was a safe, liquid alternative to bank deposits." Judge Berman found that the plaintiffs allegation do not offer any factual explanation in contradiction of this contention. According, he concluded that the plaintiff had failed to raise an inference of scienter that is cogent and at least as compelling as any opposing inference of nonfraudulent intent.

After the marketplace for auction rate securities froze in February 2008, plaintiffs’ lawyers launched a barrage of lawsuits against the investment banks and other firms that had sold investors these securities. By and large, these cases against the auction rate securities have fared poorly, particularly with respect to the financial firms that separately entered regulatory settlements intended to provide small investors relief regarding their illiquid securities investments.

For example, the securities suit filed on behalf of auction rate securities investors against UBS, which had entered into a auction rate securities-related regulatory settlement was initially dismissed with prejudice. After the plaintiffs amended their pleading, the court granted the defendants’ renewed dismissal motion but allowed the plaintiffs leave to attempt to further amend their pleadings. However, on July 7, 2010, after the plaintiffs failed to file further amendments within the allotted time, the court entered judgment on behalf of the defendants.

The poor track record in the auction rate securities cases has not been limited just to companies that had entered regulatory settlements, as was demonstrated, for example, in the dismissal granted in auction rate securities suit filed against Raymond James (about which refer here).

Similarly, the dismissal granted on the Merrill Lynch auction rate securities suit in March 2010 (about which refer here) did not depend on Merrill’s entry into a regulatory settlement, but was on the merits.

But the suits filed against the financial firms that had sold the auction rate securities represented only one type of auction rate securities lawsuit. In addition, there were a number of suits filed against the companies that had purchased the securities, in which it was alleged that the companies had misrepresented the companies’ financial condition by failing to disclose its investment. The dismissal of the Mind C.T.I. suggests that these suits against auction rate investors may fare not better than the many suits filed against the auction rate securities investors.

2010 Securities Suit Filings at the Year’s Midpoint: In a publication issued this past week, Charles River Associates issued its review of the Second Quarter 2010 securities lawsuit filings, including an analysis of the 2010 filings for the first half of the year. Though different in some details, the Charles River report is directly consistent with the observations noted on my recent post (here) on first half filings.

Among other things, the report notes that though second quarter 2010 filings were up 25% compared to the second quarter of 2009, the filings in the first half of 2010 were down 9% compared to the first half of 2009, and down 38% compared to the first half of 2008.

The report also notes that though the second quarter filings involved companies in a wide range of industries, the filings were "primarily concentrated in the financial services and oil and gas sectors." The report also notes that a number of the second quarter filings involved class periods that ended more than a year prior.

Special thanks to Christopher Noe of Charles River for providing a copy of the report.

The Dodd-Frank Bill and Securities Litigation: If the Dodd-Frank Wall Street Reform and Consumer Protection Act is finally enacted into law, we can all look forward to months of commentaries beginning like this: "A little noticed provision of the financial reform legislation may have unexpected implications." The sheer sweep of the Bill’s 2,500-plus pages and countless provisions virtually ensures that for months and years the legislation will be slowly revealing sometimes unexpected implications.

Among many other subjects that the Bill touches upon is securities litigation. Though the Bill does not reach as far as it initially appeared it might, the Bill does contain a number of provisions with securities litigation implications. These implications are helpfully catalogued in a couple of recent law firm memos.

First, in a July 9, 2010 article entitled "The Impact of Financial Reform on Securities Litigation Enforcement" and posted on the Harvard Law School Forum on Corporate Governance and Financial Regulation blog (here), several attorneys from the Wachtell Lipton firm catalogue the Bill’s various provisions.

Second, in a July 9, 2010 memo entitled "Securities Litigation Implications of the Dodd-Frank Bill," the Paul Weiss firm takes a look at the Bill’s securities litigation provisions and also review the various additional proposed provisions that did not make it into the Bill’s final version.

Finally, a July 6, 2010 memo by the Katten Muchin law firm entitled "Dodd-Frank Wall Street Reform and Consumer Protection Act Corporate Governance and Disclosure Provisions" reviews the Bill’s various provisions relating to corporate governance and disclosure practices.

These memos are detailed and helpful. Just the same, the massive Bill seem likely to have yet other sections that may involved undiscovered implications that will only be revealed in the fullness of time.

World Cup Final Notes:

1. I agree with my sixteen year old son's assessment -- I am sorry the World Cup is over. Notwithstanding those damn vuvuzelas.

2. The Spaniards should be proud, they scored and they won. Iker Casillas, Spain's goalie, played just well enough to allow his team to win. But truth be told, the tournament's final match was not a very good game. It was marred by unnecessary violance and poor sportsmanship, not to mention astonishing failures by both teams to capitalize on scoring opportunities.

3. The consolation round game on Saturday was a much better game, which I am very glad I watched. It was an exciting, fair match well played by both Uraguay and Germany. And it literally came down to the last tick of the clock. A great game all the way around.

4  I aboslutely concur in the award of the golden ball to Diego Forlan of Uraguay. He had a great tournament and he is an exciting player to watch. Rumors that he is about to sign with the Miami Heat apparently are totally unfounded.

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My weekend reading over the Memorial Day holiday included a hefty selection from the stack of law firm memos that accumulated in my inbox in recent weeks. Many of the most recent memos related to the Senate’s passage of its version of the financial reform legislation, but the memos also reflected a variety of other developments, including recent significant case developments and the passage of the UK bribery bill. I have set out below some of the more noteworthy recent law firm memos that have crossed my desk.

The Senate Financial Reform Bill

The Senate’s passage of the Restoring American Financial Stability Act of 2010 has triggered a flood of law firm memos. Though many of the memos have attempted to provide an overall description of the sweeping legislation, some have concentrated on focused on a narrow part of the bill. Several law firms have released memos focused just on the bill’s proposed corporate governance.

A May 24, 2010 memo from Sullivan & Cromwell provides an overview of the bill’s corporate governance reforms, including the bill’s provisions relating to majority voting for directors, "say on pay," executive compensation clawbacks, compensation committee independence and disclosures, and limitations on broker non-votes. The Sullivan & Cromwell memo points out that a number of the provisions in the bill – whistleblower protections, amendments relating to whistleblowers, private placement provisions and broker voting—would apply to non-U.S. issuers.

A May 28, 2010 memo from the Bingham McCutchen law firm also discusses the bill’s corporate governance reforms. Of particular interest, the Bingham memo contains an extensive discussion of the proposed "say on pay" reforms, with particular emphasis on concerns about "the amount of power the change would place in the hanks of proxy advisory firms," which provide compensation guidelines in connection with the proxy advice.

The Morgan Lewis firm also issued a May 27, 2010 memo about the Senate bill, here. The Morgan Lewis firm memo has an interested in discussion about the provision in the Senate bill that would require the securities exchanges to include the adoption of a compensation clawback policy as a listing requirement (by which incentive based compensation would be clawed-back from company officials in the event of a financial restatement of the financial statement of prior periods to which the compensation relations). The memo details the way that this provision the existing clawback requirements promulgated by SOX.

A May 27, 2010 memorandum from the Sidley Austin firm also provides an overview of the corporate governance reforms in the bill, and notes that that the bill contains additional compensation limitations for bank holding companies, and a separate provision requiring public companies to file a special SEC report of they using certain specified mineral products that may have originated in the Democratic Republic of Congo.

The Senate bill contains provisions designed to encourage corporate employees to blow the whistle on securities fraud. A May 21, 2010 Morgan Lewis memo (here) points out that these new provisions "give whistleblowers significant enhanced incentives to make a report" as part of the SEC’s new whistleblower program, and also provides extensive additional retaliation protections. The provisions would allow whistleblowers to receive rewards of between 10% and 30% of the monetary recovery. The provisions would also allow the whistleblower claiming retaliation to bypass existing administrative procedure requirements and proceed directly in federal court. The provisions also proposed a much longer statute of limitations and would create a double-back-pay remedy for retaliation claims, which created an incentive to bring retaliation claims.

Finally, a May 25, 2010 memo from the Faegre & Benson firm reports that the Senate’s financial reform bill "may give plaintiffs little to celebrate," noting that Congress "largely has chosen not to empower private parties" to enforce the rules. Indeed, the House bill’s provisions that would create the new consumer protection agency specifies that "nothing" in the provision establishing the new consumer protection "shall be construed to create a private right of action."

The Faegre & Benson memo does note that both the House and the Senate versions of the bill have "carved out a role for private litigants" to "help safeguard the integrity of the rating process" by allowing investors to sue credit rating agencies for securities fraud. The two versions disagree on the standard of liability to be required. Though the two versions must now be reconciled, some allowance private civil litigation against the rating agencies seems likely.

Securities Law Case Developments

A number of law firms have written memoranda discussing the Second Circuit’s April 27, 2010 opinion in the Pacific Investment Management Co. v. Meyer Brown case. Though the case outcome, in which the Second Circuit affirmed the dismissal of the securities fraud lawsuit against Refco’s lawyer, may have been unsurprising given the Supreme Court’s decision in Stoneridge, the law firm memos make the point that we may not have heard the last of the case.

As detailed in Arnold & Porter’s May 2010 memo about the case (here), the Second Circuit rejected the "creator theory" that both the plaintiffs and the SEC (in an amicus brief) had urged the court to adopt and instead held that "a secondary actor can only be held liabile for false statements in a private damages action for securities fraud only if the statements are attributed to the defendant at the time the statements are disseminated."

The Arnold & Porter memo points out that the decision, adopting the attribution test and rejecting the creator theory, has "two crucial limitations"; that is that it relates only to private civil actions under Rule 10b-5 and "does not speak" to government enforcement actions; and the Second Circuit refrained from addressing the question whether attribution is required for claims against corporate insiders.

The memo also notes that "perhaps most significant" is the fact that the decision was accompanies by Judge Barrington Parker’s concurring opinion, essentially calling for en banc review and even inviting the Supreme Court to weigh in on the matter. In other words, the memo notes, the Second Circuit’s recent opinion may not be the "final word on the subject."

Chadbourne & Parke also has a May 6, 2010 memo on the case, here. The Paul Hastings firm’s May 2010 memo on the case can be found here.

Finally, a May 26, 2010 memo from the Pillsbury Winthrop law firm discusses the Second Circuit’s May 18, 2010 decision in Slayton v. American Express , in which the Second Circuit held that even though forward-looking statements in the defendant’s SEC filing was not accompanied by meaningful cautionary disclosure, the plaintiffs failed to show that the statements were made with actual knowledge that they were misleading.

The Pillsbury firm memo identifies two "key takeaways" from the case: first, that "meaningful cautionary language must be specifically tailored to the statement at issue," as "boilerplate disclosure can be turned against a registrant because of its inherent lack of specificity." The Second Circuit’s holdings confirm the importance of "regularly reviewing the cautionary statements and risk factor disclosures contained in their public filings to ensure that the disclosure continue to be current and meaningful."

Second, the Second Circuit considered it to be a close call whether the plaintiffs had carried the burden of proving actual knowledge of falsity, "executive officers should remain vigilant and thoughtful when evaluating whether they have a reasonable basis for a particular forward-looking statement."

The U.K.’s Bribery Act 2010

The Morgan Lewis firm has a May 2010 memo entitled "The New UK Regime on Bribery" (here) describing the "far reaching implications" of the U.K.’s Bribery Act 2010. Among other things, the memo notes that the new law expands the scope of behavior that is targeted; no longer limited just to bribes paid to foreign officials, the new law applies to all bribes including purely commercial bribes, and applies to both the person paying and the person accepting the bribe.

Even more significant, the Act’s new Section 7 creates a new strict liability offense for organizations if a person associated with the organization bribes another person with the intent of benefiting the organization. However, organizations have a defense if they can show that they have in place "adequate procedures" to prevent bribery. In essence, the new Act is mandating compliance programs, to create controls against improper payments.

The Act has what the memo describes as a "wide territorial scope," applying of an act or omission forming part of the violation occurs in the U.K, or if in is carried out by a person with a "close connection" to the U.K.

A May 24, 2010 memo from the Weil Gotshal firm says that the new Act "provides the UK with one of the toughest regimes for regulating corruption in the world.

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On May 20, 2010, the U.S. Senate passed the Restoring American Financial Stability Act of 2010 (S. 3217) by a vote of 59 to 39. The Senate websites latest version of the Bill can be found here, and the Senate Banking, Housing and Urban Affairs Committee’s link to the most current version can be found here. Though these may be the most current versions available they do not necessariliy represent the final text of the bill, which was substantially amended and is not yet publicly available.

The Senate Bill must now be reconciled with the financial reform legislation the House passed last December (about which refer here). The reconciliation committee will be selected this upcoming week, and the plan is to have the reconciled version available for President Obama’s signature before July 4.

The massive Senate bill weighs in a 1566 pages. It is in many important ways substantially similar to the House bill, although there are also critical differences. Among the differences is the Senate bill’s controversial provision, sponsored by Sen. Blanche Lincoln, requiring financial firms to separate derivatives trading from banking operations and even spin them off under certain circumstances.

Among other measures that were not included in the Senate bill is the amendment proposed by Senator Arlen Specter that would have legislatively overturned Stoneridge and created a private right of action for aiding and abetting securities fraud. Theoretically, the measure could be included during the reconciliation process, but that seems highly unlikely at this point. Susan Beck’s May 21, 2010 Am Law Litigation Daily article reporting on the amendment’s defeat can be found here.

Another provision not included in the Senate bill is the measure incorporated in the House version (Section 7216) to provide extraterritorial jurisdiction for securities cases involving conduct within the U.S. constituting significant steps in furtherance of the securities violation, even if the transaction occurs outside the U.S. and involves only foreign investors. This provision, if incorporated in the reconciled version of the legislation, would legislatively address the "f-cubed" securities suit raised in many cases, included the National Australia Bank case now before the U.S. Supreme Court.

On the other hand, the Senate bill, like the House version, does incorporate a number of statutory corporate governance reforms. Among other things, the Senate version provides for non-binding shareholder votes on executive compensation (Section 951). The Senate bill also includes a measure requiring clawbacks from "any current or former officer" of incentive compensation awarded in the three year period prior to a financial restatement (Section 954). The Senate bill also adds additional disclosure requirements regarding compensation and regarding employee and director hedging (Sections 952 and 955)

In addition the Senate bill also specifies rules governing director elections (Section 971), among other things mandating that in uncontested elections, directors receiving a majority of votes are deemed elected. The measure further provides that directors receiving less than a majority in an uncontested election shall resign, with the board to consider whether or not to accept the resignation.

The Senate bill also requires companies to disclose the reasons why they have or have not chosen to have the same person serve both as board chair and CEO (Section 973)

The Senate bill also adopts a number of measures under the heading of "Investor Protection and Improvements to the Regulation of Securities." Among other things, the Senate bill, like the House version, includes measures providing protection and rewards for whistleblowers who report securities law violations to the SEC (Sections 922-24). The Senate bill also creates an Investor Advisory Committee that would consult with the SEC on matters pertaining to protecting investor interests (Section 911). The Senate bill also creates an Office of Investor Advocate within the SEC (Section 914).

Of particular interest to readers of this blog, the Senate bill, like the House bill, has a number of provisions relating specifically to insurance. The Senate Bill creates an Office of National Insurance (Section 502), which is in form substantially similar to the Federal Insurance Office in the House version. Like the agency created in the House version the agency created in the Senate bill would be housed within the Treasury Department. Neither the House nor the Senate version envisions that that the new federal agency would replace state insurance regulation. Instead, the new agency would monitor the industry in order to identify systemic risks; oversee TRIA; and coordinate international insurance regulatory efforts, among other things.

The Senate bill also contains a number of other insurance-related provisions, including a section addressing reporting, payment and allocation of premium taxes (Section 521); and another section relation to the regulation of non-admitted insurance (Section 522). Yet another measure specifies streamlined non-admitted insurance procedures for certain commercial insurance buyers (Section 525)

There are many other measures of more general interest in the massive Senate bill, including "improvements" to the regulation of rating agencies (Section 931 et seq.); increased disclosure requirements in connection with municipal securities (Section 975 et seq.); the creation of a Bureau of Consumer Financial Protection (Section 1001 et seq.); provision for the regulation of hedge fund advisors and others (Section 401 et seq.); and the institution of regulation for swap markets (Section 721 et seq.).

Though the ultimate shape of the legislation that will be presented to President Obama remains to be seen, the likely scope of many measures is already relatively clear, as both versions of the legislation include numerous substantially similar provisions. Whether or not the provisions ultimately enacted into law will suffice to prevent future financial crisis is a separate question but there can be little doubt that the financial system is about to face some enormous changes.

It is probably worth emphasizing here, as it may be overlooked elsewhere given the other high-profile issues the legislation involves, that the reform legislation, when enacted, will entail significant federal government involvement in areas previously viewed as the province of state regulation. Specifically, both insurance and corporate governance have until recently been regarded as matters with respect to which state interests should control.

Though significant levels of regulatory responsibility will remain at the state level both for insurance and corporate governance, this reform legislation significantly increases the federal government involvement. It doesn’t seem too suspicious to conjecture that these measures represent significant milestones in what is likely to be continued growth of federal responsibility in these areas.

The bill’s provisions relating to insurance could be of practical significance for insurance professionals. I did not review the provisions at length in this post, but if they survive in some form in the final bill, I will undertake a detailed review at that time.

Rating Agencies in the Crosshairs: The financial reform bill’s provisions relating to the rating agencies represent only one of a variety of developments that is raising the heat for those firms. David Segal’s May 23, 2010 New York Times article entitled "Suddenly, the Rating Agencies Don’t Look Untouchable" (here) takes a look at the assaults the rating agencies are facing on a variety of directions, including on the litigation front.

The article makes the point that though the rating agencies are prevailing in most of the credit crisis related cases in which they have been involved, there have also been a small handful of cases that have survived initial motions to dismiss. The article makes the point that as the litigation evolves, the plaintiffs’ lawyers are learning from every decision, including the dismissals, and are refining their arguments in subsequent cases.

The author of The D&O Diary is quoted briefly toward the end of the article.

More Deepwater Horizon Securities Litigation: As I have previously noted, the Deepwater Horizon disaster has already produced significant corporate and securities litigation, including the BP shareholders derivative suit (about which refer here) and the Transocean securities class action lawsuit (refer here). Now this litigation also includes a securities class action lawsuit filed against BP and certain of its directors and officers.

On May 21, 2010, plaintiffs’ lawyers filed a securities class action lawsuit in the Western District of Louisiana against BP and nine of its directors and officers. A copy of the complaint can be found here. The case is brought on behalf of purchasers of BP’s American Depositary Receipts "based on Defendants' repeatedassurances of BP's safe operations, reflected in the ADR price, have seen the value of their shares plummet 20% overnight - representing about $30 billion in market capitalization - as the truth about BP's operations has emerged."

The complaint alleges that "by touting the growth potential of its Gulf of Mexico operations… and highlighting the safety of the operations, BP convinced investors, including Plaintiffs, that BP would be able to generate tremendous growth with minimal risk." However, the plaintiffs allege, "The truth was that BP was cutting comers and reducing its spending on safety measures in an effort to maximize profits in the Gulf of Mexico."

Interestingly, the plaintiffs’ Louisiana counsel is the law firm of Domengeuax, Wright, Roy & Edwards, a Lafayette, Louisiana firm that has already been very active in pursuing Deepwater Horizon claims on behalf of commercial fisherman, shrimpers, oystermen, and charter boat operators, as well as on behalf of families of persons suffering injuries or death in the initial platform explosion, as reflected here.

Special thanks to Adam Savett of the Securities Litigation Watch blog for providing a copy of the BP complaint.

O.K., Who Invited the Actuary?: In his rambling biography of Pablo Picasso, Norman Mailer describes an opium-laced party at Le Bateau-Lavoir, Picasso’s Montmartre rooming house, where the guests included such luminaries as Guillaume Apollinaire and numerous avant- garde sculptors, painters and poets. Mailer also reports that the guests included "Maurice Princet, the actuarial mathematician for insurance companies, who would give them his own popular introduction to Einstein’s work before long."

Say what?

I mean no disrespect to my many insurance actuary friends, but even were I to have access to Picasso’s opium, I don’t think I could imagine how an actuary wound up in this particular scene. I mean, can you picture Princet trying to bring down the house with the old story about the guy "who couldn’t disprove the null hypothesis"?

In fairness, I should acknowledge that Princet was to play in important role in the later development of "cubism," and indeed has been described by one of the principal actors in the drama as the "godfather" of cubism, for having introduced Picasso to certain mathematical concepts. I don’t think I would be alone, however, in finding it startling that the cast of characters in this particular production includes an insurance actuary.　

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One consequence of the current economic crisis that has long seemed inevitable is some form of legislative overhaul of the financial regulatory system. This possibility may have taken one step toward realization with the October 1 release of a package of legislative proposals by Pennsylvania Democratic Congressman Paul E. Kanjorski, the Chairman of the House Financial Services Subcommittee on Capital Markets, Insurnace and Government Sponsored Enterprises.

In his October 1, 2009 press release (here), Kanjorski released "discussion drafts" of three pieces of proposed legislation that, in the words of the press release, are "aimed at tracking key parts of reforming the regulatory structure of the U.S. financial services industry. The three bills include the Investor Protection Act (here), the Private Fund Investment Advisors Registration Act (here), and the Federal Insurance Office Act (here).

Most of the media coverage of these initiatives has focused on the second of these three proposals, the Private Fund Investment Advisors Act, as reflected for example in an October 2, 2009 New York Times article (here) about Kanjorski’s proposals. This proposed Act would for the first time require many financial providers, such as hedge funds and private equity funds, to register with the SEC. The proposed provisions specify recordkeeping and disclosure requirements and provide regulators with the authority to, as the press release states, "examine the records of these previously secretive investment advisors."

The Federal Insurance Office Act, as its name suggests, would create a national office of insurance. It does not appear that the proposed legislation would supplant state regulator of insurance or even provide for the so-called dual option that has been discussed for some time and which would allow insurers to choose whether to be regulated at the state or federal level, as banks do now.

The creation of a Federal Insurance Office would be intended to remedy a perceived "lack of expertise within the federal government" regarding the insurance industry. The new Insurance Office would "provide national policymakers with access to information" in order to allow them to respond to crises and to ensure a "well functioning financial system."

Though it has received less attention, the third piece of proposed legislation, the Investor Protection Act, also contains some potentially significant provisions, including some proposed revisions to the federal securities laws.

The Investor Protection Act contains a number of proposed legislative changed designed to strengthen the SEC and boost investor protection. Among other things, the Act would, according to the press release, double the SEC’s funding over five years and provide "dozens of new enforcement powers and regulatory authorities."

The Investor Protection Act also introduces a number of proposed innovations, including a proposed whistleblower "bounty" that is intended to "create incentives to identify wrongdoing in our securities market." These provisions allow for bounties of up to 30 percent of monetary sanctions imposed on wrongdoers to be paid to whistleblowers, and also provide protection for whistleblowers from retaliation. The proposed Act also includes a number of provisions designed to facilitate collaboration between the SEC and foreign securities regulators. Broc Romanek outlines a number of the other provisions of the proposed Act on his CorporateCounsel.net blog (here).

Among the changes proposed in the Investor Protection Act are the jurisdiction provisions proposed in Section 215 of the Act, relating to "Extraterritorial Jurisdiction."

It has long been noted that federal securities laws are silent about their extraterritorial reach. The courts have long struggled with jurisdictional issues in securities cases involving foreign-domiciled companies – as, for example, was extensively reviewed by the second circuit in its 2008 decision to Morrison v. National Australia Bank (about which refer here) and by the 11^th Circuit in its recent decision in the CP Ships case (refer here).

Section 215 of the proposed Act would in effect legislatively mandate a jurisdictional standard for extraterritoriality. The jurisdictional reach proposed in the statute is very broad. By way of contrast, the defendants and amici in the Morrison case had urged the court to adopt a "bright line" test that would have held that mere conduct in the U.S. alone should not be enough for U.S. courts to exercise subject matter jurisdiction when the conduct had no effects in the U.S.

In its opinion in the Morrison case, the Second Circuit had rejected this proposed bright line test, holding that subject matter jurisdiction exists "if activities in this country were more than merely preparatory to a fraud and culpable acts or omissions occurring here directly caused the losses abroad."

Section 215 would amend the ’33 Act, the ’34 Act and the Investment Advisors Act of 1940 to specify that U.S. courts could properly exercise jurisdiction in any action involving "conduct with the United States that constitutes significant steps in furtherance of violation, even if the securities transaction occurs outside the United States and involves only foreign investors," as well "conduct outside the United States that has a foreseeable substantial effect in the United States." Under the first of these two prongs, U.S. based conduct alone would be sufficient jurisdictional basis, even with respect to foreign purchasers of who purchased their shares of foreign-domiciled companies on foreign exchanges (so-called "f-cubed claimants").

This proposal may represent a legislative effort to head off the Supreme Court, which is currently considering whether to grant certiorari in the Morrison case. Of course, it remains to be seen whether or not this jurisdictional provision will survive the legislative process, or even whether regulator reform legislation in any form remotely resembling the proposal Congressman Kanjorski has put forward.

According to the Times, the House Financial Services Committee has scheduled an October 6, 2009 hearing to discuss this issue of hedge fund regulation, among other issues. Though there is a glut of items on the current Congressional agenda, reform of financial regulation in some form seems likely in the current political and economic environment. What will emerge of course will only be revealed in the fullness of time, but Congressman Kanjorski’s opening salvo suggest that the process could be interesting and that the final outcome could included significant innovations and alterations on a wide variety of topics.

Special thanks to a loyal reader for sending along links to Congressman Kanjorski’s press release.

PLUS Chapter Event: On Wednesday, October 7, 2009, I will be moderating a panel at a Professional Liability Underwriting Society Midwest Chapter event at the Hyatt Hotel in Cincinnati, Ohio. The title of the panel is "Bankruptcy and Barriers to Coverage." The panel, which will go from 3 pm to 5 pm, followed by a reception, will include several of the leading D&O coverage experts. Registration information is available here.

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