That Stock Grant Could Cost More Than You Think

by David Beddow, Marty Dunn and Bjorn Hall of O'Melveny & Myers LLP., 9/29/2009

Original Title: That
Stock Grant Could Cost More Than You Think -- The Application of the
Hart-Scott-Rodino Act to Officer and Director Equity Compensation

Introduction

It is likely that most officers and directors of U.S. public
companies never think of the Hart-Scott-Rodino Antitrust Improvements
Act of 1976 -- often referred to as the Hart-Scott-Rodino Act or the
HSR Act -- outside of its commonly understood application to mergers
and acquisitions. These officers and directors need to be aware,
however, that it has long been the position of the Federal Trade
Commission that the HSR Act is applicable to any acquisition of voting
stock -- including an acquisition by an individual -- that exceeds the
Act's jurisdictional thresholds. Due to this broad application of the
HSR Act, an acquisition of voting stock by an officer or director of a
U.S. company -- whether in the open market or as a result of an equity
compensation plan -- could trigger a filing and waiting period
obligation under the Act.

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Section.

This Client Alert provides a general discussion of the pre-closing
filing and waiting period provisions of the Hart-Scott-Rodino Act and
their application to common types of acquisitions of voting stock by
officers and directors of U.S. public companies. It is not our intent
in this Client Alert to describe every situation in which an
acquisition of voting stock would trigger an HSR Act obligation. Of
course, because the application of the HSR Act to any acquisition will
depend on the particular facts of that transaction, public companies
and their officers and directors should consult with counsel before
entering into a transaction that could trigger a filing under the Act.

Hart-Scott-Rodino Act Basics

The HSR Act may require any person (whether an entity or an
individual) who proposes to acquire voting securities in a corporation
to provide advance notice of that potential acquisition if the
transaction exceeds the Act's jurisdictional thresholds. The following
points are fundamental to a basic understanding of the operation of the
HSR Act:

• "Voting securities." The securities acquired must
  have a present right to vote for the board of directors of the company.
  The actual ability to vote the stock is essential. An "acquisition"
  does not occur merely because a person acquires a right to acquire
  voting securities. As such, a purchase or an award of a warrant or an
  option to acquire voting securities of the company will not be HSR
  reportable; rather, the exercise of that option or warrant would be the
  HSR Act acquisition.


• "Acquisition." An
  acquisition of voting stock may be subject to the HSR Act, regardless
  of the means of acquisition. Accordingly, acquisitions in the open
  market, by exercise of options or warrants, through an equity
  compensation program, or through an employee stock purchase plan must
  be considered when assessing HSR Act application.
  

  Appreciation in the value of previously held stock, by itself,
  will not require reporting under the HSR Act. However, if an individual
  acquired an amount of company voting stock that was significantly less
  than the HSR Act threshold, but the value of that stock appreciated to
  just under an HSR Act threshold, then a very small acquisition of
  additional company voting stock could cause the individual's holdings
  to exceed the HSR Act threshold and trigger an HSR Act filing
  obligation.

  
  

  In most instances, the FTC will not consider a
  transaction to be an acquisition of voting stock if no action is taken
  by the individual (for example, where non-voting stock is forcibly
  converted to voting stock and the individual does not have sufficient
  advance notice of the event to allow for a pre-closing filing). It is
  important to note, however, that the acquisition of voting stock
  through a grant under a company's compensation plan, such as a grant of
  restricted stock or the vesting of restricted stock units, may be
  subject to the HSR Act. As noted above, the HSR Act filing requirement
  is triggered by the acquisition of "voting securities"; accordingly,
  the application of the HSR Act generally will depend on when the
  individual actually received the right to vote the granted stock.

  
  


• "Aggregation."
  Any acquisition of voting stock must be aggregated with all prior
  holdings of the company's voting stock in determining whether the HSR
  Act jurisdictional threshold has been exceeded. In other words, if a
  person is $1 short of the HSR Act threshold, the acquisition of $1 of
  voting stock will be aggregated with all prior holdings of that person
  and will trigger the application of the HSR Act. The focus is on the
  value of all stock held at the time of the acquisition.
  

  For purposes of the HSR Act, an individual's holdings must be
  aggregated with the holdings of (a) a spouse; (b) any minor children;
  and, possibly, (c) any shares held in trust by the individual or
  his/her spouse or minor children.^[1]

  
  


• "Value."
  In the case of voting stock, assessment of the HSR Act jurisdictional
  thresholds will be based on the current total value of the individual's
  holdings, along with any holdings that must be aggregated with those
  holdings, at the time of the acquisition. The valuation of publicly
  traded securities to be acquired is usually determined by the
  acquisition price but the value of securities already held is
  determined by applying the lowest closing trading price within 45 days
  of closing.

• Penalty for failure to file. Despite its common
  application in situations that raise anti-trust concerns, the HSR Act
  applies equally to all acquisitions. This broad application requires
  individuals to comply with any HSR Act filing requirements. Further,
  the fine for failure to satisfy HSR Act filing requirements has been
  raised to a maximum of $16,000 per day, every day, from the date of the acquisition.
  Although there are cases where the FTC has assessed large individual
  fines, it is important to note that the FTC will rarely fine a
  first-time violator of the HSR Act filing requirement so long as the
  error was inadvertent and the filing is made promptly after discovery
  of the error.

The Hart-Scott-Rodino Act Jurisdictional Thresholds

An acquisition of voting securities may require that reports be
filed with the FTC prior to closing of the acquisition (for this
purpose, it is assumed that an exemption is not available). Whether
reports must be filed will depend on the following: ^[2]

• Acquisitions with a value of $65.2 million or less are not reportable:
  If, as a result of an acquisition, the acquiring person will hold an
  aggregate total amount of voting securities of a company with a value
  of $65.2 million or less, the HSR Act does not apply regardless of the
  size of the parties involved;

• Acquisitions with a value of more than $260.7 million are reportable:
  If, as a result of an acquisition, the acquiring person will hold an
  aggregate total amount of voting securities of a company with a value
  of more than $260.7 million, the HSR Act applies and the parties must
  file regardless of the size of the parties involved;

• Acquisitions with a value of more than $65.2 million
  but not more than $260.7 may be reportable, depending on the size of
  the company and the individual: If, as a result of an acquisition,
  the acquiring person will hold an aggregate total amount of voting
  securities of a company with a value of more than $65.2 million but not
  more than $260.7 million, the HSR Act applies if the following tests
  are met:
  
  
  
  • One party to the transaction, or its parent company, has $130.3 million or more in total assets or annual net sales;^[3] and
  
  
  • The other party, or its parent company, has $13.0 million or more in total assets or annual net sales.^[4]
    (Where the acquired person is not engaged in manufacturing, and is not
    a $130 million person, one only looks at value of assets.)
  
  
  
  

Filing Fees and Waiting Periods under the Hart-Scott-Rodino Act

Where the HSR Act thresholds are exceeded (and an exemption is not
available), the company and the individual must make a filing with the
FTC and the acquiring person must pay a filing fee of:

• $45,000 for transactions of less than $130.3 million;

• $125,000 for transactions of $130.3 million to $651.7 million; or

• $280,000 for transactions of $651.7 or more.

Further, the company and the acquiring person must observe a 30
calendar-day waiting period before closing the acquisition. This 30
calendar-day period may be terminated early by the FTC.

Most Common Hart-Scott-Rodino Act Exemptions for Individuals

• "Investment Only" Exemption. Under this
  exemption, which is often referred to as the "Passive Investor"
  exemption, an acquisition that would otherwise require HSR Act
  reporting is exempt if, after the acquisition, the acquiring person
  will hold ten percent or less of the outstanding voting securities of
  the company and the acquisition is made "solely for the purpose of
  investment." This exemption is available regardless of the value of the
  acquisition. It is important to note, however, that this exemption is
  not available to officers or directors of the company issuing the
  securities or to any person who has any "intention of participating in
  the formulation, determination, or direction of the basic business
  decisions" of the company. As a result, it is possible that the
  exemption may be unavailable even for individuals who are not officers
  or directors of the company.

• "Pro Rata" Exemption. This exemption is available
  where "as a result of such acquisition, the voting securities acquired
  do not increase, directly or indirectly, the acquiring person's per
  centum share of outstanding voting securities of the issuer." This
  exemption may be useful for stock dividends or stock splits. In
  addition, it may be available for an individual's purchase of
  securities in those situations -- including, based on the particular
  facts, acquisitions pursuant to an employee stock purchase plan --
  where the acquisition did not increase the individual's percentage
  ownership of company stock.

Some Events That May Result in a Hart-Scott-Rodino Act Filing Requirement

An officer or director may incur an HSR Act filing obligation in any of the following situations:^[5]

• an acquisition of voting stock upon exercise of a stock option or warrant;^[6]




• a grant of restricted stock where the grantee receives the right to vote the securities at the time of grant;

• the vesting of restricted stock units;

• a purchase of voting stock in an open market transaction;

• a purchase of voting stock pursuant to a dividend reinvestment plan; or

• a purchase of voting stock pursuant to an employee stock purchase plan.

SEC Reporting of Payment of Hart-Scott-Rodino Act Fees

A number of public companies have determined that it is appropriate
to reimburse officers or directors for filing fees and legal fees
relating to compliance with the HSR Act. This determination appears to
be premised on the analysis that the "Passive Investor" exemption would
be available to the individual but for their position with the company.
In their executive compensation disclosure, public companies generally
report these reimbursements as perquisites by providing:

• the dollar amount of the reimbursements in the Summary Compensation Table; and

• an itemized discussion of the amount of the reimbursement,
  along with a discussion of the nature of the HSR Act obligation, in a
  footnote to the Summary Compensation Table.

Conclusion

Most officers and directors -- and the U.S. companies for which
they work -- do not consider the HSR Act outside of the antitrust
context. The failure to consider the application of the HSR Act to an
individual's acquisitions of company voting stock, however, may result
in that officer or director failing to comply with the filing and
waiting period requirements of the Act and potentially incurring
substantial fines. Public companies should consider including in their
compensation analysis and their insider trading policies an appropriate
process to track the ownership of voting stock by officers and
directors and work with them to monitor HSR Act compliance.

David Beddow, Partner, 

dbeddow@omm.com dbeddow
at omm dot com

Dave Beddow is a partner in O'Melveny's Washington, DC office. His
practice is focused on antitrust. A significant amount of Dave's time
is spent defending mergers and acquisitions before the U.S. antitrust
agencies - the Federal Trade Commission ("FTC") and the Department of
Justice ("DOJ") - under the Hart-Scott-Rodino ("HSR") Antitrust
Improvements Act of 1976. In recent years Dave has represented clients
in major transactions in the defense, healthcare, computer,
supermarket, drug store, food products, gaming, manufacturing, and
communications industries.

Among these transactions have been hospital mergers, mergers and
acquisitions for Fortune 500 companies, and mergers involving
multi-national companies. Dave represented Gemstar International ,
which is in the interactive television business, before the DOJ, in its
high-profile merger with TV Guide, Inc., and negotiated the settlement
of the FTC case against MSC Software Corporation , which had challenged two MSC acquisitions that had already closed. He represented International Game Technology in its mergers with Acres Gaming and Anchor Gaming. In 2006-2007, he represented Eckerd Drugs and Brooks Pharmacy in their $2.6 billion sale to the Rite Aid drug store chain and the 2007 settlement with the FTC. In 2007, he represented Western Digital in its acquisition of Komag.

Marty Dunn, Partner, 

mdunn@omm.com mdunn at omm dot com

Martin Dunn is a partner in O'Melveny's Washington, DC office and a
member of the Corporate Finance Practice. Prior to joining O'Melveny,
Marty was Deputy Director, and former Acting Director, of the U.S.
Securities and Exchange Commission's Division of Corporation Finance.
In addition, while at the SEC, Marty held other positions in the
Division of Corporation Finance, including Associate Director (Legal
and Operations) and Chief Counsel.

Before he joined O'Melveny, Marty spent twenty years in various
positions at the U.S. Securities and Exchange Commission.  In his last
five years at the Commission, he was Deputy Director, Division of
Corporation Finance, during which time he supervised that Division's
Offices of Chief Counsel, Chief Accountant, Mergers and Acquisitions,
International Corporate Finance, Rulemaking, Small Business, and
Enforcement Liaison.

Bjorn Hall, Associate, 

bhall@omm.com bhall at omm dot com

Bjorn Hall is an associate in O'Melveny's Washington, DC office and
a member of the Firm's Transactions Department and Corporate Finance
Practice.  Bjorn's practice primarily focuses on securities law,
including disclosure matters, public and private offerings of equity
and debt, and corporate governance.

Bjorn has extensive experience advising domestic and foreign private
issuers regarding: compliance with the corporate governance standards
of the national securities exchanges, state law and current best
practices; Section 16 and Section 13(d)/(g) beneficial ownership
reporting requirements; Exchange Act registration and reporting
requirements; private placements of securities pursuant to Regulation D
of the Exchange Act; transactions pursuant to Rule 144 of the
Securities Act; responding to comments received from the SEC Division
of Corporation Finance; and responding to inquiries received from the
Office of Compliance Inspections and Examinations.

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^[1] The value of such a trust must be included only if either (a) the trust is revocable or (b) the settlor(s) of the trust retain(s) a reversionary interest.

^[2]
These thresholds are increased annually by the FTC. The thresholds
discussed in this Client Alert were established in February 2009.

^[3]
As a general matter, the larger person in this analysis will be the
public company. It is important to note that the HSR Act looks to the
companies "ultimate parent entity," or "UPE." For this purpose, a UPE
is an entity not controlled by any other entity and, in the case of a
corporation, "control" means either (a) holding 50% or more of the
outstanding voting securities, or (b) having the contractual power to
designate 50% or more of the directors. Further, as a general matter,
the smaller person in this analysis will be the individual. For this
purpose, an individual is always his or her UPE.

^[4]
When applying this test to an individual, the HSR Act looks to the
person's financial statements. As an individual generally will not have
regularly prepared financial statements, the HSR Act would require the
individual to create a pro forma balance sheet to determine
whether he or she would meet the "size-of-person" test. If the
individual in fact does not have a regular balance sheet, in creating
such a balance sheet, the individual would not be required to include
the value of any voting securities he or she already holds in the
company. This may prevent the individual from meeting the
size-of-person test. (There are other assets that also can be
excluded.)

^[5]
This discussion assumes that an exemption is not available and the
acquisition causes the officer or director to cross an HSR Act
threshold.

^[6]
In this regard, the HSR Act may not apply to a true cashless, net
exercise of an option where the option is exercised and the shares are
sold instantaneously. Specifically, an option exercise will not be
deemed to be an acquisition if (a) the officer sells all the shares
acquired through the option exercise or sells other shares in an amount
not less than the number of shares acquired through the option
exercise, and (b) the sale is the same day as the exercise.

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