Securities Law - The Dodd-Frank Wall Street Reform and Consumer Protection Act

The Dodd-Frank Wall Street Reform And Consumer Protection Act (the “Act”) is a massive revision of the way in which financial services are furnished. The Act was signed by President Obama on July 23, 2010.Many of the changes become law on the effective date. However, the Act promulgates various studies which could lead to other changes. Some changes may not go into effect but will become bogged down in contentious disputes. If control of Congress should change in November, some changes may never go into effect. The Act will cause a disruption in the way various issues are perceived.

Mayer Brown has published a complete summary of the Act. It was a massive undertaking. At least eight Mayer Brown lawyers worked on the summary.

The securities section of the Act sets forth a significant number of investor protection measures. Those sections of the Act dealing with Securities Law changes will be referred to as the “Amendments.” The Amendments require the SEC to conduct a six-month study of the need to impose a fiduciary duty on brokers providing personalized investment advice to retail customers. Various factors must be taken into account in determining the effectiveness of existing standards of care.

The Amendments establish within the SEC an Investment Advisory Committee composed of (1) an investor advocate who reports directly to the Chairman of the SEC, (2) a representative of State Securities Commissionaires, (3) a representative of the interest of senior citizens and (4) between ten and twenty additional members appointed by the SEC. The Committee has a responsibility of consulting with the SEC on regulatory priorities, the substance of proposed regulations and initiatives by the SEC to protect investors and promote investor confidence in the market.
The Chairman of the SEC will appoint an Investor Advocate to lead a new office within the SEC. An ombudsman will act as liaison between retail investors and the SEC in resolving issues with the SEC and/or the securities Self-Regulatory Organizations (“SRO”). The Chairman of the SEC is responsible to take action to address deficiencies identified by a report of investigation by the SEC.
The stock exchanges must, as directed by the SEC, enforce requirements in the Amendments for clawing back incentive compensation paid to executives mistakenly paid based on erroneous results later corrected and restated within three years of such payment.

The SEC must hire a consultant to study its operations and the possible need for reform of the agencies and furnish within 150 days a report to the SEC and Congress making legislative regulatory and administrative recommendations for improvement in the SEC.

The Controller General of the United States is to issue rules surrounding employees who leave the SEC for employment with regulated firms in the securities industry and report to the SEC and the House Financial Services Committee (“HFSC”) within one year of enactment of the Act.

The SEC must establish an Investor Protection Fund from revenues from certain sanctions. The Fund to be used among other things to pay whistle-blowers who provide original information in a SEC action.

The SEC will be authorized to make nationwide service of subpoenas of civil actions filed in federal court.

The Amendments change who qualifies as an “accredited investor”. These investors must now have $1 million excluding the value of their primary residence, whereas the old standard was simply a $1 million net worth.

The Amendments also authorize the SEC to limit or prohibit the mandatory predispute arbitration clauses that apply to most brokerage accounts. Such clauses force brokerage customers to take any disputes that may arise with their broker before arbitration panels, which critics claim often favor the brokerage industry, rather than taking their claims to court.

The Anti-Fraud provisions of the Federal Securities Laws were extended to apply to “conduct within the United States that constitute significant steps in the furtherance of a violation even if the securities transactions occur outside of the United States and involve only foreign investors.”

The Government Accountability Office (“GAO”) must report to Congress within one year regarding the potential consequences of authorizing a prior right of action against any person who aids or abets another person in violation of the Federal Securities laws. In other words, the new statute reverses the Stoneridge ruling. Stoneridge Investment Partners, LLC v. Scientific Atlantic, Inc., 522 U.S. 148 (2008). In Stoneridge, the U.S. Supreme Court held that those who aid or abet securities fraud are not liable.

Various changes regarding the regulation of credit rating agencies are prescribed. For example, the SEC must establish an office of credit ratings designed to administer the SEC rules applicable to Nationally Recognized Statistical Rating Organizations (“NRSRO). It can make exceptions for smaller NRSRO’s as it considers appropriate. At least two persons on the Board of Directors of NRSRO’s must be independent directors.
Not later than 270 days after the enactment of the Amendments, the SEC, Federal Reserve Board (“FRB”), Federal Deposit Insurance Corporation (“FDIC”) and (Office of the Comptroller of the Currency (“OCC”) must issue rules requiring a securitizer of an asset backed security (other than a residential mortgage-backed security) to retain at least 5% of the credit risk in any asset that the securitizer transfers or sells to a third party. The rules become effective two years after the final version is published in the Federal Register.

Executive compensation is to be revised as follows:

Effective six months after enactment of the Amendments, publicly traded companies must hold a non-binding vote to approve the compensation of executives who are among those disclosed in public filings pursuant to SEC rules (i.e., say-on-pay votes) at least once every three years, and a separate resolution must be offered at least once every six years for a vote to determine whether say-on-pay votes should occur every one, two or three years. Although a “no vote” is not binding, it would likely cause the Board of Directors to take some action to adjust compensation standards.

The Conference Committee also agreed to require these companies to provide a non-binding vote to approve golden parachutes (effective six months after enactment). Institutional investment managers subject to Section 13(f) of the Exchange Act must annually disclose how they vote on say-on-pay and golden parachute matters unless their votes are otherwise publicly reported under SEC rules. The Amendments place ultimate responsibility for compensation decisions for executives with the respective Compensation Committees, which must be comprised of independent directors and advised by compensation consultants, legal counsel, and other advisers who are independent as well.

The SEC is required to amend item 402 of Regulation S-K under the Securities Act to require companies to disclose the relationship between executive compensation and financial performance and the ratio between the CEO’s compensation and the median compensation of all other employees.

The SEC must issue a rule requiring publicly traded companies to disclose whether executives are permitted to hedge the value of any equity securities granted to such executives as compensation.

The SEC must conduct a study, and report to Congress within two years of enactment, regarding the use by publicly traded companies of compensation consultants.

The FRB, in consultation with the OCC and FDIC, has the responsibility of establishing standards making it an unsafe and unsound practice for the holding companies of depository institutions to pay compensation that is excessive or could lead to material financial loss to the holding companies.

There will be many 3 – 2 notes by the SEC with the Commissioners nominated by the democrats winning the contentious issues but only after delays and many dissents.