EnforceMintz —Could the Supreme Court’s Decision in Jarkesy Mean the End to HHS Civil Monetary Penalty Authorities as We Know Them?
Last June, the Supreme Court issued its decision in Securities and Exchange Commission v. Jarkesy, which holds that the Seventh Amendment entitles a defendant to a jury trial when the Securities and Exchange Commission (SEC) seeks to impose civil monetary penalties (CMPs) for a securities fraud violation. While the Jarkesy decision focused on the SEC’s administrative process, enforcement actions involving CMPs brought by other federal agencies, such as the Department of Health and Human Services (HHS), also proceed through an agency tribunal as opposed to a jury trial. In particular, the Centers for Medicare & Medicaid Services (CMS), which is part of HHS, has the authority to issue CMPs in countless circumstances.
As of the date of this article, we are not aware of any federal court case that specifically challenges HHS’s administrative CMP process, but parties are starting to assert Jarkesy-based arguments in appealing HHS administrative actions. For example, in November, the HHS Departmental Appeals Board (DAB) issued a decision on an appeal filed by a skilled nursing facility (SNF) that raised Jarkesy-based arguments. The SNF had challenged an administrative law judge’s (ALJ) decision to grant summary judgment in favor of CMS in a case where CMS imposed a CMP of $1,103 per day for 109 days of noncompliance with certain Medicare participation requirements. In pertinent part, the SNF moved for the DAB to remand and refund its CMP. The SNF argued that, based on Jarkesy, the ALJ proceeding to review the imposition of CMPs was “void ab initio,” that the ALJ did not have the constitutional authority to conduct its review, and that the CMP appeal should have been heard before a jury.
Ultimately, the DAB vacated the ALJ’s decision and remanded the matter for further proceedings consistent with the DAB’s decision. Notably, however, the DAB rejected the SNF’s Jarkesy arguments because (i) the SNF’s case concerns “an entirely separate statutory authority and regulatory scheme…as administered by [HHS],” (ii) Jarkesy does not apply to the Medicare administrative appeal regime, and (iii) the Supreme Court did not hold that every agency’s attempt to impose and support CMPs necessarily is a suit at common law that must be adjudicated by an Article III court (a point that was key to the Supreme Court’s decision). The DAB also emphasized that it is not the DAB’s role to invalidate any part of the Social Security Act or its implementing regulations. This point was consistent with the DAB’s longstanding approach that ALJs may not declare a statute or regulation to be unconstitutional or refuse to apply or follow a statute or regulation on that basis.
Surely, this proceeding will not be the last time the agency encounters a Jarkesy-based argument. It is only a matter of time before the question of whether and how Jarkesy applies to HHS’s CMP authorities finds its way before the courts. If such a challenge were to succeed, it could upend the agency’s enforcement process as we know it and lead to seismic shifts in the types of enforcement matters HHS prioritizes and pursues. For now, we imagine that HHS (and other agencies) are likely reviewing their CMP procedures and reliance on ALJs to oversee these proceedings for Jarkesy-related vulnerabilities.
Climate Reporting in 2025: Looking Ahead
In this alert, we reflect on recent climate reporting updates and analyze expectations for 2025 that are relevant for international businesses.
The global landscape is becoming increasingly uncertain in relation to climate reporting following litigation and a change of management at the SEC in the U.S., an expected rise of Blue State climate reporting requirements, combined with the UK and other jurisdictions’ adoption of the global standard setter ISSB’s climate reporting standards and the EU’s implementation of the Corporate Sustainability Reporting Directive (“CSRD”), amongst other initiatives. A worldwide rollout of climate change disclosure requirements has always been uneven, but these uncertainties create the potential for even greater fragmentation.
Businesses should carry out regular horizon scanning to keep abreast with the range of legislation and regulation that could impact them.
California Climate Disclosure Law 2024 Year End Developments
As we noted in detail in our prior Client Alerts, California Climate Disclosure Laws – New Developments, Old Timelines and California – First State to Enact Climate Reporting Legislation, the California climate disclosure laws (SB 253 and SB 261) were passed in October 2023 and amended by SB 219 in September 2024. SB 253 requires covered entities to disclose their Scope 1 and Scope 2 greenhouse gas (GHG) emissions by an unspecified date in 2026 for the prior fiscal year and by an unspecified date in 2027 for Scope 3 emissions, and SB 261 requires covered entities to report on their climate-related financial risks on or before January 1, 2026. California Air Resources Board (CARB) is required to promulgate regulations by July 1, 2025, to implement SB 253 (but is not required to promulgate implementing regulations for SB 261).
On December 5, 2024, CARB issued an enforcement notice to advise entities required to comply with SB 253 that CARB will exercise its enforcement discretion for the first reporting cycle in 2026 if the reporting entity demonstrates good faith efforts to comply with the requirements of SB 253. More specifically, a covered entity may disclose its Scope 1 and Scope 2 GHG emissions based on information the entity already possesses or is already collecting and CARB will not take enforcement action against any entity that makes incomplete Scope 1 and Scope 2 GHG emissions disclosures in 2026 if the entity makes a good faith effort to retain all data relevant to its GHG emissions reporting for its prior fiscal year.
To better inform CARB’s implementation of SB 253 and SB 261, on December 16, 2024, CARB issued a solicitation to gather responses from stakeholders to 13 questions. CARB’s questions cover applicability, including what should constitute “doing business in California,” how to minimize duplication of reporting efforts for entities required to report under other programs, whether to standardize certain aspects of Scope 1, 2 and 3 reporting under SB 253 and what is an appropriate timeframe within a reporting year for biennial reporting under SB 261, among others. CARB also expressly opened the solicitation to any additional feedback that should be considered by CARB in its implementation of SB 253 and SB 261. The comment period is open until February 14, 2025 and comments can be submitted to CARB here.
SEC Developments
It is no secret that the incoming Republican Administration has been skeptical of the federal government’s climate change measures, which brings further uncertainty to the SEC’s new climate change rules. To be sure, there was already uncertainty surrounding litigation in the U.S. Court of Appeals for the 8th Circuit over the rules’ validity.
The new SEC rules for many companies were scheduled to take effect for their 2025 fiscal years, resulting in disclosure in annual reports on Forms 10-K and 20-F filed in 2026. The SEC has voluntarily stayed the effectiveness of its new rules in light of the litigation. Since certain U.S. filers will be subject to the rules based on their operations this year if the stay is lifted, the SEC will undoubtedly announce a delay in the rules’ effective dates of at least one year even if the SEC is successful in the 8th Circuit.
The new Administration will have a few options. For example:
it can await the outcome of the litigation before deciding what, if anything, to do with the rules;
it could decide to leave the rules intact in light of domestic and international pressure. As the SEC clarified in adopting the rules that disclosure is triggered only by “material climate risks,” many U.S. public companies may not have to provide disclosure under the new rules;
it could modify the rules to eliminate more controversial elements but otherwise leave the rules intact; or
the new Administration could decide to vacate the rules.
The President-Elect had been critical of climate change measures in his campaign, but not all members of his team are necessarily against all climate change measures, there is international pressure to have some level of disclosure, and therefore it is challenging to make any general, sweeping prediction. We will potentially see some additional color on the President-Elect’s plans when the nominee for SEC Chairman testifies at Senate confirmation hearings.
We recommend that companies continue to prepare for the new requirements, perhaps at a slower pace. Even if the courts invalidate the SEC’s rules, or the SEC vacates them, certain states in addition to California are likely to ramp up their own requirements in order to fill the gap, and institutional investors may strengthen their proxy voting guidelines on the subject. Companies with operations in the EU may be subject to those disclosure requirements, which overlap significantly with the SEC’s requirements.
EU Unrest on Corporate Sustainability Reporting
The first reports under the CSRD will be published in 2025. There is a phased scoping of CSRD and the first reports, predominantly by EU companies that had been subject to the Non-Financial Reporting Directive, will be read with great interest to review how they have approached the CSRD’s complex double materiality assessment and the number of sustainability topics reported on, which businesses in scope of later phases of CSRD may be able to leverage before making their own reports. Challenges remain with CSRD reporting as further guidance and expectations are published on a piecemeal basis, and national transposing law of CSRD remains incomplete in a number of EU jurisdictions.
Businesses with international headquarters that may be subject to the 2028 year CSRD reporting (to be reported on in 2029) should be aware that there is a consultation expected imminently in 2025 on the global standards for such reporting. The signals sent so far suggest the potential availability of an opt-out mechanism for global businesses, enabling them to focus disclosures on the EU footprint of products and services, rather than on global operations. For further information, please see here: A Step Closer to CSRD’s Non-EU Group Reporting Standards.
There is also political turmoil in the EU that could impact climate reporting requirements in the EU; for example, the German Chancellor, Olaf Scholz, has called for a two-year delay to CSRD (despite the timeline having already been triggered). Furthermore, there have been calls for a simplification of corporate sustainability obligations for EU businesses, with the EU currently considering simplifying various existing sustainability-related regulations into a “single omnibus regulation” (“Omnibus Regulation”). This is being led by the European Commission President, Ursula von der Leyen, after criticism that the sustainability legislation is impacting the EU’s competitiveness. Proposals on the Omnibus Regulation, alongside other streamlining proposals for businesses, are expected to be proposed by the European Commission by mid-2025.
Businesses are recommended to keep careful track of CSRD developments and how it may shape their own approach to reporting or trigger the need to re-visit key areas.
UK – and Global – Momentum Towards ISSB
The UK government has been openly supportive of the International Sustainability Standards Board (“ISSB”) International Financial Reporting Standards (“IFRS”). On 18 December 2025, the UK’s Sustainability Disclosure Technical Advisory Committee published final recommendations to the UK government to endorse the IFRS S1 General Requirements for Disclosure of Sustainability-related Financial Information and IFRS S2 Climate-related Disclosures for used in the UK, with some minor amendments.
A consultation is expected in Q1 2025, with any eventual roll out of the ISSB standards likely to mirror the phased implementation of TCFD, with UK-listed companies being subject to the requirements first.
There is broader global momentum towards ISSB adoption – including in Canada, Hong Kong and Japan. With the fragmented political landscape on ESG and competing sustainability regulatory requirements, it is likely that 2025 sees the continued rise of ISSB and it increasingly establishing itself as a common global standard following it subsuming responsibility for TCFD in 2023.
SEC’s Latest Complaint Against Elon Musk Spawns Questions About The Politics Of SEC Enforcement
Earlier this week, the Securities and Exchange Commission filed a civil complaint in the U.S. District Court for the District of Columbia. The complaint alleges that Mr. Musk in acquiring shares of Twitter failed to file a required beneficial ownership report within the time then prescribed in Exchange Act Section 13(d) and Rule 13d-1. The SEC is seeking, among other things, disgorgement and a civil penalty. According to the SEC, Mr. Musk underpaid by at least $150 million for his purchases of Twitter stock.
The most obvious question raised by the SEC’s filing is one of timing. The events in question occurred nearly three years ago – in the Spring of 2022. The facts alleged in the complaint are fairly straightforward according the complaint – Mr. Musk should have filed no later than March 24, 2022 but failed to do so until April 4 (a Schedule 13G) and April 5 (a Schedule 13D), 2022. Two plus years seems like an inordinately long time for the SEC to conclude that April 4 falls after March 24 on the calendar. The SEC initiated its investigation, Donald Trump was elected President and will assume office on January 20, 2025. Chairman Gensler has announced that he will resign on noon on the day of Mr. Trump’s inauguration. Thus, the timing of the filing of the SEC’s complaint ineluctably creates the implication that the SEC wanted the complaint filed before there was shift in the party alignment of the Commissioners.
There is also a question about how the SEC investigated Mr. Musk and whether it is targeting him for his criticism of the agency and his association with Donald Trump. The SEC has conducted various investigations of Mr. Musk since at least 2018 when it settled charges against Tesla and Musk relating to Mr. Musk’s tweets. In the present case, the SEC’s Division of Corporation Finance asked about Mr. Musk’s Schedule 13G filing on the same day that it was filed. Shortly thereafter, the SEC’s Enforcement Division intervened “so that the same individuals investigating Mr. Musk’s compliance with the consent decree could also manage the present investigation.” Sec. & Exch. Comm’n v. Musk, 2024 WL 1511903, at *2 (N.D. Cal. Feb. 10, 2024) (footnote omitted). The SEC opened the current investigation the day after it closed a prior investigation. Id. Mr. Musk has been a high profile critic of the SEC, famously dubbing it the “Shortseller Enrichment Commission”. He is co-leading Mr. Trump’s advisory commission on government efficiency (the Department of Government Efficiency or DOGE).
“Oops, I Was a Broker!?” SEC Cracks Down on Investment Adviser Representatives Acting as Unregistered Brokers
On 14 January 2025, the Securities and Exchange Commission (SEC) announced settled charges against three investment adviser representatives for acting as unregistered brokers in the sale of membership interests in certain limited liability companies (i.e., Funds) that each purportedly owned shares of private issuers that had prospects of becoming publicly traded. The SEC separately announced settled charges against an advisory firm in a related action involving improperly managing conflicts of interests and the use of liability waivers.
The settled charges against investment adviser representatives highlight the SEC’s continued drive to hold unregistered brokers accountable – especially those who facilitate the sale of pre-IPO investments to retail investors. Recently, in September 2024, the SEC had settled charges against various market participants for unregistered broker activity.
The individuals subject to the SEC’s orders were investment adviser representatives but, according to the orders, had provided investors with marketing materials and advised investors on the supposed merits of the investments. Although the individuals were each affiliated with a registered investment adviser, the SEC alleged that their actions constituted brokerage services distinct from investment advisory services. Among other facts, most investors were not pre-existing investment advisory clients. In addition, the adviser did not charge a management fee for the value of the investments into the Funds. Instead, the individuals received transaction-based compensation.
The SEC charged all three individuals with failures to register as brokers and provided for nearly US$540,000 in collective disgorgement, prejudgment interest, and civil penalties.
Regulatory Update and Recent SEC Actions January 2025
Recent SEC Administration Changes
SEC Chair Gensler to Depart Agency on January 20
The Securities and Exchange Commission (the “SEC”) announced, on November 21, 2024, that its Chair, Gary Gensler, will step down. Chair Gensler’s resignation from the SEC will be effective at 12:00 pm EST on January 20, 2025. On December 4, 2024, President-elect Trump stated his intention to nominate Paul Atkins as the Chair of the SEC. Mr. Atkins served as a Commissioner from 2002 to 2008 and on the SEC staff in the 1990s.
SEC Announced Departure of Trading and Markets Division Director
The SEC, on December 9, 2024, announced that Haoxiang Zhu, Director of the Division of Trading and Markets, would depart the agency effective December 10, 2024. David Saltiel, a Deputy Director who also heads the Division of Trading and Markets Office of Analytics and Research, will serve as Acting Director. Mr. Saltiel served as the Division of Trading and Markets Acting Director for several months in 2021.
SEC Announces Departure of Corporation Finance Division Director
The SEC, on December 13, 2024, announced that Erik Gerding, Director of the Division of Corporate Finance, would depart the agency effective December 31, 2024. Cicely LaMothe is now the Acting Director. Ms. LaMothe previously served as the Deputy Director, Disclosure Operations for the Division of Corporation Finance. Before joining the SEC, Ms. LaMothe worked in the private sector for six years, including as the financial reporting manager for a public company and as a senior associate with a national accounting firm.
SEC Rulemaking
SEC Adopts Rule Amendments and New Rule Addressing Wind-Down Planning of Covered Clearing Agencies
The SEC, on October 25, 2024, announced the adoption of rule amendments and a new rule to improve the resilience and recovery and wind-down planning of covered clearing agencies. The rule amendments establish new requirements regarding a covered clearing agency’s collection of intraday margin, as well as its reliance on substantive inputs to its risk-based margin model. The new rule requires a covered clearing agency to specify nine elements for its recovery and wind-down plan that address: (1) the identification and use of scenarios, triggers, tools, staffing, and service providers; (2) timing and implementation of the plans; and (3) testing and board approval of the plans.
SEC Modernizes Submission of Certain Forms, Filings, and Materials Under the Securities Exchange Act of 1934
The SEC, on December 16, 2024, adopted amendments to require the electronic filing, submission, or posting of certain forms, filings, and other submissions that national securities exchanges, national securities associations, clearing agencies, broker-dealers, security-based swap dealers, and major security-based swap participants make with the SEC. Prior to the adoption of these amendments, registrants filed with, or otherwise submitted to, the SEC many of the forms, filings, or other materials in paper form. Under the amendments, registrants will make these filings and submissions electronically using the SEC’s EDGAR system, in structured data format where appropriate, or by posting them online.
SEC Adopts Rule Amendment to Broker-Dealer Customer Protection Rule
The SEC, on December 20, 2024, adopted amendments to Rule 15c3-3 (the “Customer Protection Rule”) to require certain broker-dealers to increase the frequency with which they perform computations of the net cash they owe customers and other broker-dealers from weekly to daily. The amendments will become effective 60 days after the date of publication of the adopting release in the Federal Register. Broker-dealers that exceed the $500 million threshold using each of the 12 filed month-end FOCUS Reports from July 31, 2024, through June 30, 2025, must comply with the daily computations no later than December 31, 2025.
SEC Enforcement Actions and Other Cases
SEC Charges Market Makers and Nine Individuals in Crackdown on Manipulation of Crypto Assets Offered and Sold as Securities
The SEC, on October 9, 2024, announced fraud charges against three companies purporting to be market makers and nine individuals for engaging in schemes to manipulate the markets for various crypto assets. The SEC alleges that the companies provided “market-manipulation-as-a-service” which included generating artificial trading volume through trading practices that served no economic purpose and that they used algorithms (or bots) that, at times, generated “quadrillions” of transactions and billions of dollars of artificial trading volume each day.
SEC Charges Investment Adviser and Owner for Making False and Misleading Statements About Use of Artificial Intelligence
The SEC, on October 10, 2024, announced charges against an investment adviser (the “Adviser”) and two individuals, an owner and a director of the Adviser, with making false and misleading claims about the Adviser’s purported use of artificial intelligence (“AI”) to perform automated trading for client accounts and numerous other material misrepresentations. The SEC’s order states that the two individuals raised nearly $4 million from 45 investors for the growth of the Adviser that was falsely described as having an AI-driven platform. The Adviser and individuals were charged with fraudulent conduct in the offer or sale of securities under the Securities Act of 1933 and the Securities Exchange Act of 1934, and the Adviser was charged with fraudulent conduct by an investment adviser under the Investment Advisers Act of 1940, as amended.
SEC Charges Advisory Firm with Failing to Adhere to Own Investment Criteria for ESG-Marketed Funds
The SEC, on October 21, 2024, charged a New York-based investment adviser (the “Adviser”) with making misstatements and for compliance failures relating to the execution of the investment strategy of three exchange-traded funds (“ETFs”) that were marketed as incorporating environmental, social, and governance (“ESG”) factors. According to the SEC’s order, the Adviser represented in the prospectuses for the ETFs and to the board of trustees overseeing the ETFs, that the ETFs would not invest in companies involving certain products or activities, such as fossil fuels and tobacco. Further, the SEC order states that the Adviser used data from third-party vendors that did not screen out all companies involved in fossil fuel and tobacco-related activities. The SEC’s order further finds that the Adviser did not have any policies and procedures over the screening process to exclude such companies. The Adviser consented to the entry of the SEC’s order finding that the firm violated the antifraud provisions of the Investment Advisers Act of 1940 and the Investment Company Act of 1940 and the Compliance Rule of the Investment Advisers Act.
“At a fundamental level, the federal securities laws enforce a straightforward proposition: investment advisers must do what they say and say what they do,” said Sanjay Wadhwa, Acting Director of the SEC’s Division of Enforcement. “When investment advisers represent that they will follow particular investment criteria, whether that is investing in, or refraining from investing in, companies involved in certain activities, they have to adhere to that criteria and appropriately disclose any limitations or exceptions to such criteria. By contrast, the funds at issue in today’s enforcement action made precisely the types of investments that investors would not have expected them to based on the Adviser’s disclosures.”
Directors of Money Market Fund Sued Over Share Class Conversion
Two shareholders (the “Shareholders”) filed a lawsuit alleging that the directors of a money market fund (the “Directors”) breached their fiduciary duty by failing to automatically move fund investors’ assets from higher cost share classes of the fund to lower-cost share classes. The Shareholders allege that the board of the money market fund allowed certain fund investors to continue paying higher fees as retail class shareholders rather than auto-converting their holdings to the cheaper, but otherwise identical premium class, even though their holdings were eligible for the “auto-conversion”. The complaint states that “[the Directors’] inaction demonstrates gross neglect or reckless disregard for the best interest of the class shareholders… Either the [Directors] have been recklessly uninformed of these massive overcharges that cause significant losses to the shareholders, or have known about the issue and inexcusably failed to take action to remedy it.” The Shareholders seek damages, restitution, disgorgement, and an injunction preventing the Directors from continuing to engage in the alleged conduct.
Two Entities Affiliated with Major Institutional Organization to Pay $151 Million to Resolve SEC Enforcement Actions
The SEC, on October 31, 2024, charged two affiliated and commonly-owned investment advisers (each an “Adviser” and together, the “Advisers”) in five separate enforcement actions for compliance failures including misleading disclosures to investors, breach of fiduciary duty, prohibited joint transactions and principal trades, and failures to make recommendations in the best interest of customers. The enforcement actions related to:
Conduit Private Funds – An Adviser made misleading statements regarding its ability to exercise discretion over when to sell and the number of shares to be sold, despite disclosures representing that it had no discretion.
Portfolio Management Program – An Adviser failed to fully and fairly disclose the financial incentive that the firm and some of its financial advisors had when they recommended the Adviser’s own Portfolio Management Program over third-party managed advisor programs offered by the Adviser.
Clone Mutual Funds – An Adviser recommended certain mutual fund products, Clone Mutual Funds, to its retail brokerage customers when materially less expensive ETF products that offered the same investment portfolios were available.
Joint Transactions – An Adviser engaged in $3.4 billion worth of prohibited joint transactions, which advantaged an affiliated foreign money market fund for which it served as the delegated portfolio manager over three U.S. money market mutual funds it advised.
Principal Trades – An Adviser engaged in or caused 65 prohibited principal trades with a combined notional value of approximately $8.2 billion. In order to conduct these transactions, according to the SEC’s order, a portfolio manager directed an unaffiliated broker-dealer to buy commercial paper or short-term fixed income securities from the Adviser which the other Adviser then purchased on behalf of one of its clients.
SEC Charges Adviser for Making Misleading Statements About ESG Integration
The SEC, on November 8, 2024, charged an investment adviser (the “Adviser”) with making misleading statements about the percentage of company-wide assets under management that integrated ESG factors. The Adviser stated in marketing materials that between 70 percent and 94 percent of its parent company’s assets under management were “ESG integrated.” However, in reality, these percentages included a substantial amount of assets that were held in passive ETFs that did not consider ESG factors. Furthermore, the SEC’s order found that the Adviser lacked any written policy defining ESG integration.
SEC Charges Three Broker-Dealers with Filing Deficient Suspicious Activity Reports
The SEC, on November 22, 2024, announced that three broker-dealers (the “Broker-Dealers”) agreed to settle charges relating to deficient suspicious activity reports (“SARs”) filed by the Broker Dealers. The SEC alleged that multiple SARs filed by the Broker-Dealers failed to include important, required information. SARs must contain “a clear, complete, and concise description of the activity, including what was unusual or irregular” that caused suspicion of the use of funds derived from illegal activity or activity that has no apparent lawful purposes. The SEC’s orders alleged that each Broker-Dealer filed multiple deficient SARs over a four-year period.
SEC Charges Former Chief Investment Officer with Fraud
The SEC, on November 25, 2024, charged the former co-chief investment officer (the “CIO”) of a registered investment adviser with engaging a multi-year scheme to allocate favorable trades to certain portfolios, while allocating unfavorable trades to other portfolios (also known as “cherry-picking”). The SEC’s complaint alleges that the CIO would place trades with brokers but wait until later in the day to allocate the trades among clients in the portfolios he managed. According to the complaint, the CIO’s delay in allocating the trades allowed him to allocate trades at first-day gains to favored portfolios and trades at first-day losses to disfavored portfolios.
SEC Charges Wealth Management Company for Policy Deficiencies Resulting in Failure to Prevent and Detect Financial Advisors’ Theft of Investor Funds
The SEC, on December 9, 2024, charged a wealth management company (the “Company”) with (1) failing to reasonably supervise four investment advisers and registered representatives (the “Financial Advisers”) who stole millions of dollars of advisory clients’ and brokerage customers’ funds and (2) failing to adopt policies and procedures reasonably designed to prevent and detect the theft. Specifically, the SEC found that the Company failed to adopt and implement policies designed to prevent the Financial Advisers from using two forms of unauthorized third-party disbursements, Automated Clearing House payments and certain patterns of cash wire transfers, to misappropriate funds from client accounts.
SEC Charges Two Broker-Dealers with Recordkeeping and Reporting Violations for Submitting Deficient Trading Data to SEC
The SEC, on December 20, 2024, announced settled charges against two broker-dealers (each a “Broker-Dealer” and together, the “Broker-Dealers”). According to the SEC’s order, the Broker Dealers made numerous blue sheet submissions to the SEC that contained various deficiencies, including inaccurate or missing information about securities transactions and the firms or customers involved in the transactions. The SEC found that, one of the Broker-Dealers made 15 types of errors, that caused nearly 11,200 blue sheet submissions to have missing or inaccurate data for at least 10.6 million total transactions, while the other Broker-Dealer made 10 types of errors that caused 3,700 blue sheet submissions to have misreported or missing data for nearly 400,000 transactions.
International Bank Subsidiary to Pay $4 Million for Untimely Filing of Suspicious Activity Reports
The SEC, on December 20, 2024, charged a registered broker-dealer (the “Broker-Dealer”) for failing to file certain SARs in a timely manner. According to the SEC’s order, the Broker-Dealer received requests in connection with law enforcement or regulatory investigations, or litigation that prompted it to conduct SARs investigations. The SEC’s order found that in certain instances, the Broker-Dealer failed to conduct or complete the investigations within a reasonable period of time.
SEC Files Settled Charges Against Multiple Entities for Failing to Timely File Form D in Connection with Securities Offering
The SEC, on December 20, 2024, announced charges against three companies (for this section only, the “Companies”) for failing to timely file Forms D for several unregistered securities offerings in violations of Rule 503 of Regulation D of the Securities Act of 1933. The SEC found that one of the Companies, a registered investment adviser that controls two private funds, failed to ensure that such private funds timely filed Forms D in connection with offerings involving the sale of membership interest in such private funds. The SEC found that two other Companies, both privately held companies, failed to timely file Forms D in connection with unregistered securities offerings for which the Companies engaged in certain communications that constituted general solicitations.
“Form D filings are crucial sources of information on private capital formation, and compliance with the requirement to make such filings in a timely manner is vital to the Commission’s efforts to promote investor protection while also facilitating capital formation, especially with respect to small businesses,” said Sanjay Wadhwa, Acting Director of the SEC’s Division of Enforcement. “Today’s orders find that the charged entities deprived the Commission and the marketplace of timely information concerning nearly $300 million of unregistered securities offerings.”
Shareholders File Derivative Complaint Against Independent Directors and Fund Management Alleging Breach of Fiduciary Duties
In December 2024, a derivative complaint was filed against the independent directors and fund management, alleging that their breach of fiduciary duties was responsible for the “astonishing collapse” of several funds. In December 2021, the board of directors (the “Board”) approved a plan of liquidation involving transferring nearly all the $300 million in assets of four closed-end feeder funds and a master fund, along with several private funds, for unlisted preferred units from the buying company (the “Buyer”). Ultimately, the units converted into common shares worth eight dollars each when the Buyer went public through a merger with a special purpose acquisition company. Since going public, the value of the shares has fallen to 81 cents, or less than a penny after accounting for a one-for-80 reverse stock split. According to the lawsuit, fund management and the Board did not inform the shareholders of the liquidation plan until weeks after it happened, and the liquidation plan was never submitted to shareholders for approval.
Other Industry Highlights
SEC Division of Examinations Announces its Examination Priorities for Fiscal Year 2025
The SEC Division of Examinations (the “Division”), on October 21, 2024, published its Fiscal Year 2025 Examination Priorities which highlights the practices, products, and services that the Division of Examinations believes present heightened risk to investors or the overall integrity of U.S. capital markets. The report indicated that the Division would focus on:
Investment Advisers – (1) adherence to fiduciary standards of conduct, (2) effectiveness of advisers’ compliance programs, and (3) examinations of advisers to private funds.
Investment Companies – (1) fund fees and expenses, and any waiver or reimbursements, (2) oversight of service providers (both affiliated and third-party), (3) portfolio management practices and disclosures, for consistency with claims about investment strategies or approaches and with fund filings and marketing materials, and (4) issues associated with market volatility.
The report also indicated that the Division is going to continue examining advisers and funds that have never been examined or those that have not been examined recently, with a particular focus on newly registered funds. The full report can be found here.
SEC Announced Enforcement Results for Fiscal Year 2024
The SEC announced that it filed a total of 583 enforcement actions in fiscal year 2024 while obtaining orders for $8.2 billion in financial remedies. The 583 enforcement actions represent a 26 percent decline in total enforcement actions compared to fiscal year 2023. Key areas of focus by the SEC included:
Off-channel communications. In fiscal year 2024, the SEC brought recordkeeping cases against more than 70 firms resulting in more than $600 million in civil penalties.
Marketing Rule (Rule 206(4)-1 under the Investment Advisers Act of 1940, as amended (the “Advisers Act”)) compliance. More than a dozen investment advisers were charged with non-compliance of the Advisers Act Marketing Rule including charges for advertising hypothetical performance to the general public without implementing policies and procedures reasonably designed to ensure hypothetical performance was relevant.
Misleading claims regarding AI. AI and other emerging technologies presented heightened investor risk from market participants using social media to exploit elevated investor interest in emerging investment products and strategies. These actions included multiple actions against advisers alleging the use AI in their investment processes.
SEC Risk Alert Highlights Examination Deficiencies Found in Core Focus Areas for Registered Investment Companies
The SEC’s Division of Examinations (the “Staff” or the “Division”) issued a risk alert (the “Alert”) regarding its review of certain core focus areas and associated document requests for registered investment companies (each a “Fund”, and collectively, the “Funds”). The Alert highlighted that examinations typically focus on whether Funds: (1) have adopted and implemented effective written policies and procedures to prevent violation of the federal securities laws and regulations, (2) provided clear and accurate disclosures that are consistent with their practices, and (3) promptly addressed compliance issues, when identified.
The Staff reviewed deficiency letters sent to Funds during the most recent four-year period and analyzed deficiencies and weakness related to the core areas of fund compliance programs, disclosures and filings, and governance practices. Below are some of the common deficiencies:
Fund Compliance Programs
Funds did not perform required oversight or reviews as stated in their policies and procedures or perform required assessments of the effectiveness of their compliance programs.
Funds did not adopt, implement, update, and/or enforce policies and procedures.
Policies and procedures were not tailored to the Funds’ business models or were incomplete, inaccurate, or inconsistent with actual practices.
Funds’ Codes of Ethics were not adopted, implemented, followed, enforced, or did not otherwise appear adequate.
Chief Compliance Officers did not provide requisite written annual compliance reports to Fund boards.
Fund Disclosures and Filings
Fund registration statements, fact sheets, annual reports, and semi-annual reports contained incomplete or outdated information or contained potentially misleading statements.
Sales literature, including websites, appeared to contain untrue statements or omissions of material fact.
Fund filings were not made or were not made on a timely basis.
Fund Governance Practices
Fund board approvals of advisory agreements appeared to be inconsistent with the requirements of the Investment Company Act of 1940, as amended, and/or the Funds’ written compliance procedures.
Fund boards did not receive certain information to effectively oversee Fund practices.
Fund boards did not perform required responsibilities.
Fund board minutes did not fully document board actions.
The full alert can be accessed here.
SEC’s Division of Investment Management’s Disclosure Review and Accounting Office Identifies Common Issues Found in Review of Tailored Shareholder Reports
As of July 24, 2024, open-end funds have been required to file more concise annual and semi-annual reports (“Tailored Shareholder Reports” or “TSRs”) that highlight information that the SEC deems “particularly important” to retail shareholders in assessing and monitoring their fund investments. After three months of TSR filings, on November 8, 2024, the Division of Investment Management’s Disclosure Review and Accounting Office (“DRAO”), which is responsible for reviewing TSR filings, published Accounting and Disclosure Information 2024-14 (the “ADI”) which flags common issues it has identified in its review of TSR filings and provides a reminder to funds of certain requirements.
Issues Regarding Expense Information
Annualizing expenses in dollars paid on a $10,000 investment in a semi-annual shareholder report, instead of reflecting the dollar costs over the period on a non-annualized basis.
Calculating expenses in dollars paid on a $10,000 investment by incorrectly multiplying the “Costs paid as a percentage of your investment” by $10,000, instead of multiplying the figure in the “Cost paid as a percentage of your investment” column by the average account value over the period based on an investment of $10,000 at the beginning of the period.
Presenting expenses in dollars paid on $10,000 investments to the nearest cent, when the figure must be rounded to the nearest dollar.
Funds might consider noting in their semi-annual reports that costs paid as a percentage of a $10,000 investment is an annualized figure.
Issues Regarding Management’s Discussion of Fund Performance
Disclosure by many ETFs of average annual total returns for the past one-, five-, and 10-year periods based on market value, instead of the ETF’s net asset value; additional disclosure of market value performance is not permitted to be included in the shareholder reports.
Failure by some funds to compare their performance to an appropriate broad-based securities market index both in their shareholder reports and in its prospectus.
Failure by some funds to include a statement to the effect that past performance is not a good predictor of the fund’s future performance, or to utilize text features to make the statement noticeable and prominent.
Other Issues
Including portfolio-level statistics, such as average maturity or average credit rating, under the heading “Graphical Representations of Holdings,” instead of under the heading “Fund Statistics.”
Disclosing holdings as a percentage without specifying the basis for the presentation of the information (i.e., net asset value, total investments, or total or net exposure).
Disclosing material fund changes while omitting the required cover page disclosure or including the cover page disclosure but failing to include any disclosure about the material fund changes.
Including broken links (to their websites) in their shareholder reports.
Including extraneous and sometimes lengthy disclosures such as disclaimers or risks that are not required or permitted.
For Inline XBRL structured data purposes, tagging all of their indexes as broad-based indexes instead of tagging their additional indexes with the separate tag intended for additional indexes.
For further information, the complete ADI may be accessed, here.
Does Your Company Discourage Employees from Being Whistleblowers? The SEC May Think So!
The Dodd-Frank Wall Street Reform and Consumer Protection Act, which was enacted in 2010 in response to the 2008 financial crisis, added protections for whistleblower activity to the Securities Exchange Act of 1934 (“Exchange Act”). Specifically, Section 21F of the Exchange Act and the related Securities and Exchange Commission (SEC) rules (collectively, “Section 21F”), provide protections to employees and other persons who report possible violations of securities laws to the SEC. Section 21F created a bounty program whereby, if a whistleblower’s tip leads to an enforcement action, then, in some cases, the whistleblower can receive a percentage of the sanctions collected by the SEC. Section 21F also prohibits any action that could “impede an individual from communicating directly with the [SEC] staff about a possible securities law violation, including enforcing, or threatening to enforce, a confidentiality agreement…with respect to such communications.”[1]
SEC Enforcement Activity
The SEC has brought over 32 enforcement actions against both public and private companies for violations of Section 21F, with many actions alleging that provisions in certain agreements between the companies and their employees impeded the employees from reporting possible violations to the SEC. For example:
In June 2022, the SEC settled with The Brink’s Company regarding the terms of its confidentiality agreements entered into as a part of the company’s onboarding process, which prohibited employees from sharing the company’s confidential information with any third party without the prior written authorization the company. The SEC found that this language violated Section 21F because it did not include a carveout that would permit confidential information to be shared with the SEC without the prior approval of the Company, which could impede an employee’s ability to report potential violations to the SEC.[2]
In September 2023, the SEC settled with privately-held Monolith Resources LLC regarding the terms of its separation agreements with former employees that required them to “waive their rights to monetary whistleblower awards in connection with filing claims with or participating in investigations by government agencies.” These agreements explicitly stated that the agreement was not intended to in any way prevent or limit the former employee from participating in any investigation, but the SEC found that the language still impeded employees from participating in the SEC’s whistleblower program “by having employees forego important financial incentives that are intended to encourage people to communicate directly with SEC staff about possible securities law violations.”[3]
In September 2024, the SEC settled Section 21F charges with seven public companies, including a charge against Acadia Healthcare Company Inc. over language in its employee separation agreements that required employees to represent that they had not filed any complaints or charges with any agency or court, and agree they would not file any complaints with an agency or court relating to events prior to the date of the agreement. The SEC found that this could be interpreted as preventing former employees from reporting suspected securities law violations to the SEC.[4]
An important note worth highlighting is that, in all of the above cases, the SEC did not find that any whistleblower had actually been (or even claimed to have been) deterred from making a report to the SEC by the language in question or that the company had ever tried to enforce such language – rather, the enforcement action was brought merely because the language existed.
What You Should Do Now
As evidenced by the seven settlements that the SEC entered into on a single day in September 2024, whistleblower language continues to be a focus of SEC enforcement actions. Additionally, a number of publicly-traded companies have received demand letters from shareholders requesting revisions to publicly-filed agreements that the shareholders assert violate Section 21F and seeking access to books and records to investigate whether other agreements or policies exist that would violate Section 21F.
Because of the SEC’s increased focus on whistleblower language and the rise of demand letters, all companies, but particularly public companies, should review their employment, separation, and similar agreements with employees and contractors, as well as equity incentive and severance plans and award or participation agreements, to ensure they do not contain any language that could potentially be interpreted as impeding whistleblower activity. While the SEC enforcement actions appear currently to be focused on employee agreements, we note that Section 21F applies to any person, not just employees, so companies may also wish to consider reviewing their customer, supplier, investor, and other agreements for similar problematic language.
Whether any specific language in an agreement violates Section 21F will depend on the specific scope and substance of the provision. However, a non-exhaustive list of potentially problematic provisions include those that:
Prohibit the use of the company’s confidential information for any reason without appropriate carveouts or limitations;
Prohibit an individual from making any potentially disparaging remarks to any third party without appropriate carveouts or limitations;
Prohibit an individual from filing a report or complaint about the company with the SEC;
Require an employee to provide notice (advance or otherwise) to the company before or after contacting, meeting with, or disclosing confidential information to, the SEC; or
Require an individual to waive the individual’s right to recover a monetary award for participating in an SEC investigation relating to a securities law violation.
[1] 17 CFR § 240.21F-17(a).
[2] The Brink’s Company, Securities Exchange Act Rel. No. 95138 (June 22, 2022).
[3] Monith Resources, LLC, Exchange Act Rel. No. 98322 (September 8, 2023).
[4] Acadia Healthcare Company, Inc., Exchange Act. Rel. No. 100970 (September 4, 2024).
Nasdaq Rule Change Lengthens Reverse Stock Split Notice Period
Last November, Nasdaq proposed a rule change that would lengthen the notification period for companies conducting reverse stock splits from five business days to 10 calendar days. The rule change became effective immediately and will become operative on January 30.
In November 2023, the US Securities and Exchange Commission approved new listing requirements for Nasdaq, including Rule 5250(e)(7). Rule 5250(e)(7) currently requires a company conducting a reverse stock split to notify Nasdaq of the stock split by submitting a Company Event Notification Form no later than 12:00 PM, ET five business days prior to the proposed market effective date of the reverse stock split.
However, Rule 10b-17(a)(2) and (b) of the Securities Exchange Act of 1934, as amended, requires that a company notify the Financial Industry Regulatory Authority no later than 10 calendar days prior to the date of record to participate in a reverse stock split, unless that notice is compliant with the procedures of a national securities exchange whose requirements are “substantially comparable” with the 10-day requirement.
Because Nasdaq’s five-business-day requirement may not be considered “substantially comparable” to the 10-calendar-day requirement under Rule 10b-17, Nasdaq has proposed the modified rule (to 10 calendar days) in order to conform to the requirements of Rule 10b-17. Nasdaq also submitted a modified Company Event Notification Form that will reflect the new notice requirement.
Takeaways
Beginning January 30, companies seeking to effectuate reverse stock splits will be required to provide 10 calendar days’ notice by submitting a Company Event Notification Form.
The Company Event Notification Form will continue to require disclosure of information such as the effective date of the split, the split ratio, confirmation of Depository Trust Company eligibility of the post-split Committee on Uniform Securities Identification Procedures number, and dates of board and shareholder approval.
Failure to provide timely notice could result in a halt in stock trading.
Nasdaq is not proposing any changes to the two-day public disclosure requirement outlined in Rule 5250(b)(4).
SEC Updates Names Rule FAQs
On 8 January 2025, the staff of the Division of Investment Management of the US Securities and Exchange Commission (the SEC) released an updated set of Frequently Asked Questions (the FAQs) related to the amendments to Rule 35d-1 (Names Rule) under the Investment Company Act of 1940, as amended (the 1940 Act) and related form amendments (collectively, the Amendments) adopted in 2023. The FAQs modify, supersede, or withdraw portions of FAQs released in 2001 (the 2001 FAQs) related to the original adoption of the Names Rule. In addition to the FAQs, the SEC staff also released Staff Guidance providing an overview of the questions and answers withdrawn from the 2001 FAQs (Staff Guidance). Together, the FAQs and the Staff Guidance on the withdrawn FAQs are intended to provide guidance to the various implementation issues and interpretative questions left unclear by the adopting release of the Amendments to the Names Rule (2023 Adopting Release). While the FAQs and the Staff Guidance do not address all key issues and questions related to the Names Rule, they do provide new guidance on certain areas and suggest interpretive frameworks that can be more universally applied.
Revisions to Fundamental Policies
In the revised FAQs the SEC staff updates certain FAQs, broadening the reach of those FAQs’ applicability. For instance, the SEC staff modifies the 2001 FAQ relating to the shareholder approval requirement for a fund seeking to adopt a fundamental 80% Policy to also provide guidance in instances where an 80% investment policy (an 80% Policy) that is fundamental is being revised. The SEC staff provides clarification concerning the process required to revise fundamental investment policies. The FAQ states that a fundamental 80% Policy may be amended to bring such policy into compliance with the requirements of the amended Names Rule without shareholder approval, provided the amended policy does not deviate from the existing policy or other existing fundamental policies. The FAQs restate that individual funds must determine, based on their own individual circumstances, whether shareholder approval is necessary within this framework. Accordingly, funds may take the position that clarifications or other nonmaterial revisions to a fundamental 80% Policy in response to the amended Names Rule would not require shareholder approval. If it is determined that nonmaterial revisions have been made to a fundamental 80% Policy, notice to the fund’s shareholders is required.1 Funds should also continue to provide 60 days’ notice (as required by amended Rule 35d-1) for any changes to nonfundamental 80% policies. A similar analysis can be applied in determining whether a post-effective amendment filed pursuant to rule 485(a) under the Securities Act of 1933 is required in connection to the Names Rule implementation process.
Guidance on Tax-Exempt Funds
The FAQs provide insight into the SEC staff’s view of the applicability of the Names Rule to funds whose names suggest their distributions are exempt from both federal and state income tax. According to the FAQs, such funds fall within the scope of the Names Rule and, per Rule 35d-1(a)(3), must adopt a fundamental policy to invest, under normal circumstances, either:
At least 80% of the value of its assets in investments, the income from which is exempt from both federal income tax and the income tax of the named state.
Its assets so that at least 80% of the income that it distributes will be exempt from both federal income tax and the income tax of the named state.
With respect to the 80% Policy basket of single-state tax-exempt funds (e.g., a Maryland Tax-Exempt Fund), the FAQs reiterate that those funds may include securities of issuers located outside of the named state. For such a security to be included in the fund’s 80% Policy basket, the security must pay interest that is exempt from both federal income tax and the tax of the named state, and the fund must disclose in its prospectus the ability to invest in tax-exempt securities of issuers outside the named state.
Additionally, with respect to the terms “municipal” and “municipal bond” in a fund’s name, the FAQs reiterate that such terms suggest that the fund’s distributions are exempt from income tax and would be required to comply with the requirements of Rule 35d-1(a)(3) described above. It further reconfirms that securities that generate income subject to the alternative minimum tax may be included in the 80% Policy basket of a fund that includes the term “municipal” within its name but not a fund that includes “tax-exempt” within its name.
Specific Terms Commonly Used in Fund Names
In addition, the FAQs provide some insight as to the SEC staff’s view of the application of the Names Rule with respect to a number of other terms such as:
High-Yield
The FAQs affirm the SEC staff’s view that funds with the term “high-yield” in the name must include an 80% Policy tied to that term. The FAQs note that the term “high-yield” is generally understood to describe corporate bonds with particular characteristics, specifically, that a bond is below certain creditworthiness standards. However, the SEC staff made an exception for funds that use the term “high-yield” in conjunction with the term “municipal,” “tax-exempt,” or similar. Based on historical practice and as the market for below investment grade municipal bonds is smaller and less liquid, the SEC staff asserts that it would not object if such funds invested less than 80% of their assets in bonds with a high yield rating criteria.2
Tax-Sensitive
The SEC staff confirms in the amended FAQs that “tax-sensitive” is a term that references the overall characteristics of the investments composing the fund’s portfolio and would not require the adoption of an 80% Policy.
Income
The FAQs confirm that the term “income,” is not alluding to investments in “fixed income” securities, but rather when used in a fund’s name, it suggests an objective of current income as a portfolio-wide result. The FAQs declare that the term “income” would not, alone, require an 80% investment policy.
While SEC staff’s guidance when considering the three terms noted above does not provide an overview of how all terms should be treated because an amount of judgment is required for certain terms, they do confirm the general framework should be used when analyzing the applicability of Rule 35d-1 to other terms. Specifically, and consistent with the 2023 Adopting Release, the examples reiterate that terms describing overall portfolio characteristics are outside the scope of the Names Rule, while the terms describing an instrument with “particular characteristics” are within scope of the Names Rule.
Money Market Funds
The FAQs also confirm that funds that use the term “money market” in their name along with another term or terms that describe a type of money market instrument must adopt an 80% Policy to invest at least 80% of the value of their assets in the type of money market instrument suggested by its name. The FAQs further explain that a generic money market fund, one where no other describing term is included in its name, would not be required to adopt an 80% Policy. The FAQs also cite relevant information included in frequently asked questions related to the 2014 Money Market Fund Reform.
Withdrawals from 2001 FAQs
In addition to the modification of certain questions within the FAQs, the SEC staff also withdrew a number of key questions from the 2001 FAQs. The SEC staff stated that certain questions were removed for several reasons, including the fact that certain questions were no longer relevant as they addressed circumstances that were specific to the 2001 adoption of the Names Rule, or that they believed the questions were already addressed in the 2023 Adopting Release. Below is a discussion of certain questions that were removed:
The SEC staff withdrew the outdated 2001 FAQ discussing revising former 65% investment policies to 80% Policies.
The FAQs also withdrew a question related to notice to shareholders of a change in investment policy as the Amendments and the 2023 Adopting Release both clearly describe the requirements for Rule 35d-1 notices.
The 2001 FAQs’ guidance regarding terms such as “intermediate-term bond” was also withdrawn. This guidance in the 2001 FAQs set forth the SEC staff position that a bond fund with the terms “short-term”, “intermediate-term”, or “long-term” in its name should have a dollar-weighted average maturity of, respectively, no more than three years, more than three years but less than 10 years, or more than 10 years and an 80% investment policy to invest in bonds. The FAQs removal of the definition suggests the potential for expanding the definition of such terms.
The 2001 FAQs’ guidance also removed several FAQs related to specific terms:
The question regarding the use of terms such as “international” and “global” was removed as the 2023 Adopting Release states that such terms describe an approach to constructing a portfolio and thus not requiring an 80% investment policy. However, the SEC staff would often require funds to adopt certain policies reflecting “international” or “global” investing in practice prior to the 2023 Adopting Release, so whether that reference changes the review staff practice will remain to be seen.
The question related to the use of “duration” was also removed as the 2023 Adopting Release states that such term references a characteristic of the portfolio as a whole.
Although the FAQs may be helpful, many uncertainties regarding the implementation and application of the Amendments to the Names Rule exist and additional guidance will be necessary to more clearly understand and implement the Amendments. Additionally, this guidance comes on the heels of the Investment Company Institute’s letter to the SEC in late December 2024 requesting that the SEC delay implementation of the Names Rule. Given that the development and finalizing of the FAQs requires a significant amount of time and effort, the timing of their release does not suggest that the SEC will or will not act on that request.
Immigration Insights Episode 4 | Bank Compliance and Investment Immigration: A Discussion with Metropolitan Commercial Bank [Podast]
In this episode of Greenberg Traurig’s Immigration Insights series, host Kate Kalmykov is joined by James Sozomenou, Co-Head of Metropolitan Commercial Bank’s EB-5 Private Client Group, to discuss an overview of EB-5 and new integrity measures in the RIA. Together, they highlight how the RIA impacts services banks offer to regional centers, working with fund administrators, compliance on behalf of investors, and ways foreign nationals work with banks.
ISS and Glass Lewis Announce Compensation-Related Updates For 2025 Proxy Season
Recently, Institutional Shareholder Services (“ISS”) released updates to its voting policies for 2025, including new and updated responses to its Compensation Policies FAQs and new Value-Adjusted Burn Rate Benchmarks (based on company size and industry) in its Equity Compensation Plans FAQs. These updates follow the off-cycle update that ISS announced for its Compensation Policies FAQs this past October, which we reported on here. Similarly, Glass Lewis (“GL”) also recently released its annual Benchmark Policy Guidelines for 2025. Consistent with the last few years, this year’s updates by ISS and GL reflect incremental, rather than transformational, changes to their respective policies relating to compensation practices.
ISS COMPENSATION POLICIES FAQ UPDATE
Evaluation of Performance-Vesting Equity Awards. Beginning with the 2025 proxy season, ISS will place greater scrutiny on the disclosure and design aspects of performance-vesting equity. In particular, this greater scrutiny will be applied to companies that exhibit a quantitative pay-for-performance misalignment. ISS also provided a non-exhaustive list of typical considerations it will take into account when reviewing the disclosure and design aspects of performance-vesting equity:
Non-disclosure of forward-looking goals (highlighting that retrospective disclosure of goals at the end of the performance period will carry less mitigating weight than it has in prior years);
Poor disclosure of the vesting results at the end of an applicable performance period;
Poor disclosure of the reasoning for metric changes, metric adjustments, or program design;
Unusually large pay opportunities;
Non-rigorous goals if they do not appear to strongly incentivize outperformance; and/or
Overly complex performance equity structures.
Incentive Program Metrics and Total Shareholder Return (“TSR”). Specifically, ISS clarified that it is agnostic to the use of TSR (or any other specific metric) but noted the importance of objective metrics that increase transparency in pay decisions. In evaluating the metrics of an incentive program, ISS may consider several factors, such as:
Whether the program emphasizes objective metrics linked to quantifiable goals;
The rationale for selecting metrics;
The rationale for atypical metrics or significant metric changes from the prior year; and/or
The clarity of disclosure around adjustments for non-GAAP metrics.
In-Progress Changes to Existing Incentive Programs. ISS outlined its generally negative view on mid-cycle changes (such as to metrics, performance targets, and/or measurement periods) to existing incentive programs and emphasized the importance of a clear and compelling rationale that explains how the mid-cycle changes do not circumvent applicable pay-for-performance outcomes.
GLASS LEWIS POLICY GUIDELINES UPDATE
Discretionary Equity Award Vesting in the Context of a Change in Control. GL updated its discussion on the treatment of unvested equity awards following a change in control transaction to incorporate its view that companies that allow for committee discretion over such unvested awards should commit to providing a clear rationale for their ultimate decision with respect to how the awards are treated in connection with the change in control transaction.
General Approach to Analyzing Executive Pay Programs. GL emphasized that its approach to analyzing executive compensation programs was meant to be holistic, noting that there are few program features that alone would lead to an unfavorable recommendation on a say-on-pay proposal. When reviewing unfavorable factors, GL will generally consider (i) a company’s rationale for the factor, (ii) the executive compensation program’s overall structure, (iii) a company’s overall disclosure quality, (iv) the program’s ability to align executive pay with performance, and (v) the trajectory of the pay program resulting from changes introduced by the compensation committee.
LOOKING FORWARD
The ISS updates are effective for meetings held on or after February 1, 2025, and GL began applying its new guidelines on January 1, 2025. Proskauer’s Employee Benefits and Executive Compensation team regularly advises companies on best practices with respect to implementing executive compensation programs, including the potential impact of proxy advisor policies on a company. Please contact a member of the team to assess whether these changes impact your company, and, if they do, what, if anything, should be done to address the impact.
5 Trends to Watch: 2025 Capital Markets
1. Strong U.S. Equity Markets, SPACs, and ETFs: The U.S. equity markets are likely to kick off the year strong, as a variety of players are expected to take advantage of the early days of the incoming presidential administration. This may lead to a flurry of deals, particularly during the first three quarters, as companies seek to capitalize on favorable conditions and the markets assess the impact of the new administration on the economy and the broader geopolitical environment.
A new wave of SPAC IPOs gained momentum in late 2024 that is likely to continue into 2025, particularly as the incoming administration takes aim at accelerating business growth through deregulation and expected tax cuts impact capital gains and losses. The decline in the PIPE market to facilitate SPAC mergers will need a robust turnaround, however, to determine if the SPAC will ultimately prove to once again be a viable vehicle for alternative entry to the public markets. Exchange-traded funds (ETFs) are also experiencing dynamic growth and change, particularly with the rise of thematic and niche ETFs that concentrate on specific trends like clean energy, technology, or emerging markets, appealing to investors interested in particular sectors or themes. As ETFs gain popularity, there is a possibility of increased regulation, with new rules potentially being introduced to ensure transparency, liquidity, and investor protection. Furthermore, innovation in product offerings, such as the creation of actively managed ETFs or those incorporating alternative assets, could provide investors with a wider array of investment options. These developments are shaping the ETF landscape by broadening the scope of investment opportunities and ensuring a more regulated market environment.
2. Regulatory Changes and Digital Assets: Republican commissioners and staff attorneys at the SEC and CFTC have signaled that, while awaiting comprehensive legislation and confirmation of the new SEC chair, they intend to reduce reliance on enforcement to mold regulatory guardrails, provide increased executive relief through no-action letters, and collaborate with industry participants in crafting rules differentiating tokens as commodities from tokens as securities. In doing so, clearer regulatory guidelines could emerge, fostering a more favorable environment for blockchain investments. Individual states such as California, on the other hand, may increase their enforcement activity in 2025.
3. Divergent Landscape Continues for Climate and Human Capital Disclosures: In the United States, there may be a rollback of regulations at the federal level requiring climate risk disclosures, while international issuers will still need to comply with EU and UK rules, potentially creating disparities in disclosure requirements. Similarly, there could be less emphasis on human capital disclosures, including those related to ESG (environmental, social, and governance) criteria. Investors might also reduce their demands on issuers regarding these disclosures. Meanwhile, certain states (e.g. California, Minnesota, and New York) are continuing to move forward with their climate-risk disclosure reporting regimes. In the EU and UK, the development of sustainability laws and regulations continues at a fast pace, which could influence debt and equity capital markets transactions, including corporate disclosure, product level disclosure, and ESG due diligence obligations and ratings.
4. Revised Regulatory Framework for EU Equity Issuers: In the European Union, the recent implementation of the Listing Act is widely expected to represent a pivotal milestone for EU capital markets, aimed at streamlining access and reducing administrative burdens, particularly for well-established issuers. This legislative measure is anticipated to further enhance the European financial sector by simplifying the process for companies to access public markets, thereby creating a more dynamic and competitive environment and providing a more viable alternative to standard bank financing. By simplifying some of the complex offering and listing regulatory obstacles and facilitating easier market entry, the Act is expected to enhance liquidity and attract a broader range of issuers, including small and medium-sized enterprises, fostering innovation and economic expansion across member states. While it may take some time to fully benefit from all the regulatory changes aimed at addressing the concerns raised by practitioners in the field, the recent legislation clearly indicates that the EU seeks to strengthen its position as a leading global financial center.
5. Anticipated Tax Policy Changes Likely to Influence Investment Strategies: Potential changes in tax policies, such as adjustments to capital gains tax rates, could significantly influence investor behavior and decision-making related to asset sales and investment strategies. With the Tax Cuts and Jobs Act of 2017 set to expire in 2025, Congress may consider extending it or implementing further tax cuts. Additionally, the use of advanced real-time tax management tools is likely to become more prevalent, enabling investors to optimize their tax positions concerning capital gains and losses. These developments could collectively impact the landscape of capital gains and losses, shaping investment strategies and economic growth.
Dorothee & Rafał Sieński contributed to this article.
SEC Priorities for 2025: What Investment Advisers Should Know
The US Securities and Exchange Commission (SEC) recently released its priorities for 2025. As in recent years, the SEC is focusing on fiduciary duties and the development of compliance programs as well as emerging risk areas such as cybersecurity and artificial intelligence (AI). This alert details the key areas of focus for investment advisers.
1. Fiduciary Duties Standards of Conduct
The Investment Advisers Act of 1940 (Advisers Act) established that all investment advisers owe their clients the duties of care and loyalty. In 2025, the SEC will focus on whether investment advice to clients satisfies an investment adviser’s fiduciary obligations, particularly in relation to (1) high-cost products, (2) unconventional investments, (3) illiquid assets, (4) assets that are difficult to value, (5) assets that are sensitive to heightened interest rates and market conditions, and (6) conflicts of interests.
For investment advisers who are dual registrants or affiliated with broker-dealers, the SEC will focus on reviewing (1) whether investment advice is suitable for a client’s advisory accounts, (2) disclosures regarding recommendations, (3) account selection practices, and (4) disclosures regarding conflicts of interests.
2. Effectiveness of Advisers Compliance Programs
The Compliance Rule, Rule 206(4)-7, under the Advisers Act requires investment advisers to (1) implement written policies reasonably designed to prevent violations of the Advisers Act, (2) designate a Chief Compliance Officer, and (3) annually review such policies for adequacy and effectiveness.
In 2025, the SEC will focus on a variety of topics related to the Compliance Rule, including marketing, valuation, trading, investment management, disclosure, filings, and custody, as well as the effectiveness of annual reviews.
Among its top priorities is evaluating whether compliance policies and procedures are reasonably designed to prevent conflicts of interest. Such examination may include a focus on (1) fiduciary obligations related to outsourcing investment selection and management, (2) alternative sources of revenue or benefits received by advisers, and (3) fee calculations and disclosure.
Review under the Compliance Rule is fact-specific, meaning it will vary depending on each adviser’s practices and products. For example, advisers who utilize AI for management, trading, marketing, and compliance will be evaluated to determine the effectiveness of compliance programs related to the use of AI. The SEC may also focus more on advisers with clients that invest in difficult-to-value assets.
3. Examinations of Private Fund Advisers
The SEC will continue to focus on advisers to private funds, which constitute a significant portion of SEC-registered advisers. Specifically, the SEC will prioritize reviewing:
Disclosures to determine whether they are consistent with actual practices.
Fiduciary duties during volatile markets.
Exposure to interest rate fluctuations.
Calculations and allocations of fees and expenses.
Disclosures related to conflicts of interests and investment risks.
Compliance with recently adopted or amended SEC rules, such as Form PF (previously discussed here).
4. Never Examined Advisers, Recently Registered Advisers, and Advisers Not Recently Examined
Finally, the SEC will continue to prioritize recently registered advisers, advisers not examined recently, and advisers who have never been examined.
Key Takeaways
Investment advisers can expect SEC examinations in 2025 to focus heavily on fiduciary duties, compliance programs, and conflicts of interest. As such, advisers should review their policies and procedures related to fiduciary duties and conflicts of interest as well as evaluating the effectiveness of their compliance programs.