Law firms with "dog in the fight" are obstructing enforcement of Section 16 (b)

Below is something from Alan Dye of Romeo and Dye, attorneys with Hogan Lovells.

Shareholder Challenging Availability of Rule 16b-3(e) to Exempt Elective Exercise of Tax Withholding Right
As some members already know, a shareholder (not represented by counsel) has submitted letters to a number of companies demanding that they seek to recover short-swing profits from insiders who elected to exercise a tax withholding right (or a right to have shares withheld to pay the exercise price of an option) within six months of an open market (or other non-exempt) purchase. The withholding transactions were reported on Form 4 using transaction code "D." indicating the dispositions were exempted by Rule 16b-3(e) because the withholding right was a term of the initial award as approved by the board or a committee of non -employee directors. The shareholder is taking the position, however, that Rule 16b-3(e) exempts withholding only if it is "automatic," and does not exempt an elective withholding, where the insider could have elected to pay the tax (or exercise price) with cash instead. The shareholder is basing this position primarily on Compliance and Disclosure Interpretation 123.16, which says that the "automatic" issuance of a new option upon the exercise of a reload option is exempt under Rule 16b-3 without further approval by the board or a committee, as is the "automatic" withholding of shares to pay tax withholding.

For what it's worth, Peter Romeo and I disagree strongly with the shareholder's position, as do the attorneys I've spoken with who are responding to similar demand letters. To my knowledge, the shareholder has not yet filed a complaint against any insider. In other Section 16(b) contexts, however, the shareholder has proven to be litigious,

I will post updates regarding this issue as developments warrant. Any other members who are dealing with the issue should feel free to share or seek information in the Discussion Forum.

Below are links to other attorneys from other law firms making similar claims. misses -exempt-under-16b-3

These other firms, who have a "dog in the fight" are making similar statements as Alan Dye about the shareholder claiming violations of section 16 (b) and enforcing section 16 (b) by seeking recovery for the issuer.

Essentially the shareholder is claiming that when the officer or director has discretion to deliver shares or cash to the issuer for taxes or exercise prices payments, if the payment is made in the form of shares, there is no exemption from 16 (b) of the 1934 Act. The shareholder claims the delivery of the shares can be matched with non exempt purchases, made within 6 months and there was a profit which is recoverable. 

The shareholder is also claiming that the staff of the SEC has taken the view that when the issuer has discretion to accept or not accept the officer or director disposition of shares for taxes or exercise prices, there is no specific approval under Rule 16 b-3(e) and thus no exemption exemption from 16 (b).

Among other things, these attorneys refer to a recent decision by a U.S. Court in Houston on April 26, 2017, where a suit was filed claiming violations of 16 b. The court ruled that all causes of action were DISMISSED due to the fact that the transactions in question are compensation related and are designed to be exempt from Section 16 b-3(e) of the Securities Exchange Act of 1934.

The purchase was a market purchase and the dispositions were to pay a tax using shares. There is no Section 16 b-3(e) of the Securities Exchange Act of 1934.

Both the ABA and the New York State BA hold the view that the fact that a transaction is compensation related is irrelevant. Section 16 (b) states that "profits shall inure to and be recoverable by the issuer, irrespective of any intention on the part of such beneficial owner. And the ABA and the New York State BA endorse that view.  

See below from the ABA and NYSBA:

The New York State Bar Association in its August 9, 2004 letter to the SEC on page 3

Rule 16b-3 is entirely consistent with the intent of Congress in enacting Section 16(b), since it exempts only transactions involving parties on an equal footing from the standpoint of knowledge of inside information............................. Given these circumstances, it is irrelevant to the purposes of Section 16(b) whether the transactions covered by the Rule are compensation-related or not. What is critical is that the Rule does not present the opportunities for the misuse of inside information, which the statute is intended to prevent. "

The American Bar Association in its August 16, 2004 letter to the SEC on Page 2 said:
‘Whether the transactions are compensatory in nature should be irrelevant to the purposes of Section 16, because the key consideration of the statute is the absence of the ability to take advantage of the other party on the basis of inside information.'


Why are such high profile attorneys writing articles about some shareholder making claims that they alleged have no merit? Yet none has ever presented any authority on why the position expressed by the shareholder is in error

These attorneys refute what the SEC staff says in the Q and A of May 23, 2007 #123.16.

They refute what the ABA and the NY State Bar state which was accepted in the SEC release of August 9, 2005.

They refute what Section 16 b of the 1934 Act clearly states.

The answer is that these attorneys know that they, the plan designers, the Board of Directors and officers of those companies have approved Compensation Plans and Grant Agreements which are designed to allow the insiders to extract excessive wealth from the Company/shareholders.

They know that they all have violated their Fiduciary Duties to the company and the shareholders and are trying to make a case that these violations of Section 16 (b) are approved by the Board or the Compensation and are exempt from 16 (b) even though the transactions are "comprehended within the purpose of 16 (b)".

The liabilities from violations of Fiduciary Duties are far greater that the small amounts recoverable due to violations of section 16 (b).

John Olagues

Edited Fri, Jul 21, 2017 6:56 AM

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