Dodd-Frank VII: Big Picture Thoughts

If you are seriously A.D.D., and my summaries of summaries of the Dodd-Frank bill took too long, here I’ll give the big overview of the bill as it may affect smaller public companies. I want to give credit to Weil Gotshal & Manges, Davis Polk & Wardwell, as well as the Harvard Law School Forum on Corporate Governance and Financial Regulation. I looked at a bunch but relied quite a bit on their summaries in writing this series of blogs. Their summaries were well organized and concise. So here’s the 300,000 foot summary and then some thoughts.

• Advisers to private equity and hedge funds managing over $100 million will now have to register as investment advisers with the SEC and be subject to reporting and recordkeeping requirements and regular inspections.
• A new Financial Stability Oversight Council, led by the Treasury Secretary, can select companies whose failure creates “systemic risk” for our economy, upon which they can be more heavily regulated and be forced to shed assets if necessary.
• The definition of  “accredited investor” in SEC Regulation D has now been changed so that if you qualify with $1 million net worth it must exclude your primary residence. This is effective now.
• The bill is just the beginning, as it instructs various agencies to conduct 243 rulemakings and 67 studies.
• “Smaller reporting companies” with a public float below $75 million are now permanently exempt from Sarbanes-Oxley Section 404(b) which requires auditors to attest to the adequacy and sufficiency of a company’s internal financial controls.
• Whenever a public company issues a proxy including executive compensation, shareholders have the right to conduct a non-binding vote on the proposed compensation, this is so-called “say on pay.” But the company is not obligated to follow the vote.
• A “bad actor” disqualification has now been applied across Regulation D, prohibiting those with conviction of a securities related crime, a bar from being in the securities business, or with an order saying they committed fraud or deception from conducting private placements under Regulation D.
• Other big stuff is there but less applicable to our space: the “Volcker Rule” restricting banks’ proprietary trading, establishment of a Consumer Financial Protection Bureau to monitor things like mortgages and credit cards, and much greater oversight of the over-the-counter derivatives market.

So is this good or bad? I admit to leaning towards libertarian when it comes to regulating business. Adam Smith’s “invisible hand” theory of the workings of markets has always been attractive to me. At the same time, there is no question that excessive greed and to some extent extreme stupidity led to the financial meltdown that came this close to crushing our entire economy. And the Great Depression made clear that some oversight of our key financial institutions is necessary. So it’s all about balance. Often after a crisis a legislative response (read: Sarbanes-Oxley) goes too far and swings the pendulum more than necessary. The very broad powers given to the new Financial Stability Oversight Council are a bit scary, and in control of the wrong hands could be quite dangerous indeed. But one would think it will help reduce the risk that we will face the same crisis that hit us in 2008 and 2009. The fund industry has been ready for registration and many had already registered, so not that big of a deal. I actually thought they would go further to tighten the accredited investor standard, so I don’t see the $1 million net worth change as too troublesome.  The help for smaller public companies certainly is a plus and welcomed. So this one will be judged more by its implementation I think than its content. But overall, some good stuff and the less good stuff could have been worse. Sounds like US politics. Now back to RM!

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