GC Agenda: March 2010

A round-up of major horizon issues for General Counsel.

Practical Law The Journal


Independent Operational Control

A recent "gun jumping" case underscores the importance of maintaining the independent operation of a target's or seller's business in the ordinary course in the period between signing and closing a merger, particularly where the purchaser and target or seller are direct competitors.

The Department of Justice (DOJ) settled its case against Smithfield Foods, Inc. (Smithfield) and Premium Standard Farms LLC (Premium Standard) by requiring the companies to pay $900,000 for violating the premerger waiting period requirements of the Hart-Scott-Rodino Antitrust Improvements Act of 1976 (HSR Act). According to the DOJ, Smithfield and Premium Standard, both major players in the pork packing and processing and hog production industry, violated the requirements of the HSR Act when Smithfield exercised operational control over Premium Standard's business before the expiration of the waiting period.

The Smithfield/Premium Standard merger agreement contained a customary covenant that Premium Standard carry on its business in the ordinary course consistent with past practice during the period of time between signing and closing. According to the DOJ's complaint, before closing and during the extended HSR waiting period, Premium Standard submitted three proposals to purchase hogs to Smithfield for its consent before entering into the contracts and provided Smithfield with all of the proposed contract terms. Although the contracts were for multi-year terms and a large sum of money, the DOJ still considered them to be ordinary course operations.

For a standard conduct of business covenant, see Standard Document, Merger Agreement (Pro-Buyer) ( www.practicallaw.com/8-383-4693) .


The Federal Trade Commission (FTC) has announced lowered thresholds for premerger notification filings under the HSR Act. For the first time, the "size of transaction" test for reporting proposed mergers and acquisitions has decreased, with the 2010 threshold set at $63.4 million, down from $65.2 million in 2009. The "size of person" test thresholds have also been reduced.

However, the recent suit against Dean Foods Company is a clear reminder that even if a deal is not subject to HSR reporting, the DOJ or FTC may still launch an antitrust investigation, and deals can still be undone after closing.

The deal between Dean Foods and Foremost Farms USA fell below the thresholds which trigger the HSR prior notification requirements. However, the DOJ filed a complaint on January 22, 2010, almost ten months after the deal closed, alleging that the acquisition would substantially lessen competition in violation of Section 7 of the Clayton Act. The suit seeks an order against Dean Foods to unwind its acquisition of two milk processing plants from Foremost Farms USA.


Corporate Governance and Securities

Climate Change Disclosure

As a result of new SEC guidance, companies should consider placing climate change on their disclosure committee's agenda and monitoring both national and international regulatory and physical climate-related developments to assess the likely impact on their business. For further detail on the new interpretive guidance, see Environment.

Non-Gaap Measures

New SEC guidance will make it easier for companies to use non-GAAP (Generally Accepted Accounting Principles) measures in their SEC filings. The guidance demonstrates an effort by SEC staff to encourage consistent financial disclosure in SEC filings and in other communications such as earnings releases and analyst presentations.

The recently released compliance and disclosure interpretations relate to:

  • Regulation G, which prohibits using misleading non-GAAP measures in all company communications and requires reconciliation with corresponding GAAP measures.

  • Regulation S-K Item 10(e), which applies to a company's SEC filings and restricts the use of non-GAAP measures that exclude items identified as non-recurring unless specified criteria are met.

Two of the new interpretations merit highlighting in particular. One is the staff's position that companies may properly use a non-GAAP measure in their SEC filings even if the measure excludes recurring items, so long as they explain why the measure is useful and do not mislead investors by identifying the relevant items as non-recurring, infrequent or unusual (a designation which must meet Item 10(e)'s requirements). The other interpretation is that companies may now safely include in their SEC filings non-GAAP measures that are not commonly used by management, a reversal of previous guidance that suggested they could use non-GAAP measures only if management used them in managing the business. However, the SEC recommends that, if material and applicable, companies explain the purpose of using these non-GAAP measures.

The new interpretations provide an opportunity for companies to take a holistic view of their communications with the public and develop a consistent approach to their financial disclosure. This means that if a company uses a non-GAAP measure in an analyst presentation, it should also consider disclosing that measure in its SEC filings on the basis that if it is helpful for an analyst, it is helpful for investors.

Director Skills and Diversity

As they prepare their proxy statements, public companies are continuing to digest the new SEC proxy disclosure rules. In particular, companies are weighing approaches to disclosure of individual director skills and the new requirement to discuss diversity in board composition.

On director skills, the challenge stems from the requirement to provide director qualifications on an individual basis. Possible approaches range from using a checklist-type matrix table listing skills and matching them with individual directors, to a more general description of skills drawn from the experience of board members or nominees. A related question is whether this information should be disclosed with the individual director biographies or in a separate section. While the checklist approach does not seem to be a favorite among practitioners, no approach is foolproof at this stage and all varieties will be tested with the SEC.

Another area that companies and their counsel continue to struggle with is disclosure around diversity. Although the SEC left to companies the task of defining diversity, anecdotal evidence suggests that it might press companies that say they consider diversity in nominating directors but do not have a diversity policy to provide more information (because saying the company does not have a formal policy then obviates the need to assess the application and efficacy of the policy as the rules require). It is not clear at this point whether this will lead companies to adopt a more formal diversity policy immediately, but what is clear is that the impact of the new disclosure requirements likely will be distilled through the next several proxy seasons.


Dispute Resolution


A recent New York federal court decision outlines the steps a company should take to satisfy the duty to preserve and collect electronically-stored information (ESI) for production in litigation.

In The Pension Committee of the Univ. of Montreal Pension Plan v. Banc of Am. Sec., LLC, the US District Court for the Southern District of New York made it clear that as soon as a company reasonably anticipates becoming involved in litigation, the company should:

  • Issue written hold orders advising employees to preserve relevant documents.

  • Suspend routine e-mail and document destruction policies.

  • Collect and preserve ESI and documents from all present and former employees who are likely to be "key players" in the litigation.

  • Ensure that backup tapes are preserved when they are the sole source of relevant information.

The court's decision also highlights the potential consequences for those who fail to take appropriate steps to ensure relevant ESI and other documents are properly preserved. The court issued an order permitting the jury to presume that the ESI and documentary evidence which were destroyed as a result of certain parties' "gross negligence" would have been harmful to those parties' claims, had the evidence been produced.

For a Checklist of issues for counsel to consider during the initial data presentation process, see First Steps for Identifying and Preserving Electronic Information: Checklist ( www.practicallaw.com/0-501-1791) .

Enforcing Arbitration Awards

Arbitration agreements with non-US parties should be reviewed in light of a Second Circuit decision on the enforceability in the US of arbitration awards against foreign entities.

The US Court of Appeals for the Second Circuit detailed some of the jurisdictional hurdles that may prevent a party from enforcing an arbitration award against a foreign award-debtor in the US in Frontera Resources Azerbaijan Corporation v. State Oil Company of the Azerbaijan Republic.

The court held that an arbitration award may be enforced against a foreign award-debtor only if the award-debtor has either:

  • Sufficient contacts within the US to create jurisdiction over its person.

  • Assets in the jurisdiction out of which the award could be satisfied, such as a bank account.

The Second Circuit's decision has been criticized as inconsistent with the New York Convention's narrow list of grounds for not recognizing or enforcing an arbitration award. Nonetheless, in light of the court's decision, companies should consider taking the following steps:

  • Include a waiver of jurisdiction clause into arbitration agreements and amend existing agreements to include a waiver clause.

  • Investigate adversaries prior to arbitration to identify and locate their US assets and their contacts with the US that may support a finding of personal jurisdiction.

  • Prepare for enforcement action during the arbitration, so that adversaries' US assets can be frozen as soon as the arbitration decision is handed down.


Employee Benefits

IRS Payroll Tax Audits

Companies, particularly small companies, should look out for notification from the IRS that they have been selected to be audited for payroll and employment tax compliance.

The IRS has announced that beginning in mid-to-late February, it will initiate 2,000 audits per year for three years (for a total of 6,000 audits). A broad cross-section of employers will be audited, including large and small corporations, partnerships, sole proprietors, governmental entities and non-profits. The majority of audits will affect small businesses because they comprise the largest segment of the taxpayer community.

The audit examination requests will focus on the 2008 tax year and will be denoted as a "compliance research examination" or bear the notation "3850-B." They will include an initial set of information data requests (IDRs). Most likely the IRS will issue additional IDRs in response to information submitted by a taxpayer. The audits are expected to be time consuming and expensive for selected taxpayers.

A team of IRS agents headed by a payroll tax specialist will examine a range of areas such as worker classification (employee versus independent contractor designation), payroll tax withholding, fringe benefit reporting and nonqualified deferred compensation. The IRS will focus special attention on executive compensation and the tax rules of Code Section 409A (at least as to information reporting and tax withholding).

For more information, see:

Performance-Based Compensation

Public corporations have until March 30, 2010 to correct certain types of executive agreements that do not comply with the IRS's new guidance on the deductibility of performance-based compensation.

Public corporations are subject to a $1 million deduction limit on compensation paid to certain executives. Performance-based compensation (compensation paid on attainment of one or more pre-determined performance goals) is not subject to the $1 million limit. In 2008, the IRS clarified that payments will not be considered performance-based compensation if the plan or agreement covering the executive allows payment of the performance-based compensation on termination of employment without cause, resignation for good reason or voluntary retirement, regardless of whether the performance targets are actually met. Merely including this type of provision in an agreement causes the loss of the ability to deduct the compensation.

To preserve the deductibility of performance-based compensation, corporations were required to amend executive agreements before the end of 2009. However, because performance goals must be pre-determined before or soon after a performance period starts (by the earlier of 90 days after the beginning of the performance period or before 25% of the period has passed), executive agreements that provide for a calendar year performance period may still be amended until March 30, 2010.



Climate Change Disclosure

The recent SEC interpretive guidance on climate change disclosure clearly signals to companies that they should ensure any disclosure controls and procedures that they have in place under Sarbanes-Oxley take the impact of climate change into account.

The SEC stressed that it is not setting a new materiality standard, but the guidance reminds companies of the SEC rules that may require disclosure related to climate change in the business, legal proceedings, risk factors and management's discussion and analysis (MD&A) sections of their disclosure documents.

In particular, the SEC directs companies to consider the impact of existing and pending environmental regulation and legislation (both national and international), the indirect consequences of environmental regulation (like changes in demand for products that create greenhouse gas emissions), and the actual and potential impact on a company's business of physical changes to the environment (like severe storms and similar weather conditions). It invites companies to consider carefully whether additional disclosure on these subjects is necessary.

Energy and transportation sector companies, among others, are expected to have more to say about climate change than companies in other industries with smaller carbon footprints. But, no matter what the industry, it would be unwise to take a cavalier approach to disclosure on climate change given how firmly entrenched the concerns about climate change have become in the activist agenda. For many companies, the guidance will lead to more detailed disclosure on climate change in the MD&A and other sections.

For recent trends in climate change risk disclosure practices, see Article, Disclosure of Climate Change Risk to Investors ( www.practicallaw.com/8-500-8935) . For standard climate change risk factors which may be inserted into a company's annual and periodic reports, registration statements or any private placement offering document, see Standard Document, Sample Risk Factors: Climate Change ( www.practicallaw.com/7-385-1225) .

Copenhagen Response

Nearly 50 countries recently submitted their emissions reduction plans in a tepid response to the Copenhagen Conference held in December 2009. Although the countries that have submitted reduction plans account for 78% of global greenhouse gas emissions, the plans would fail to achieve the Conference's central goal of keeping global warming at below 3.6 degrees above the pre-industrial era.

The US submitted a plan to cut emissions by about 17% (compared with 2005 levels) by 2020. However, this plan is contingent on Congress passing legislation that meets that goal, and, as previously noted in this section, it is far from clear whether the US government will enact legislation or what form that legislation might take (see GC Agenda: February 2010: Environment ( www.practicallaw.com/5-501-2566) ). Recent lawsuits challenging EPA's decision to regulate greenhouse gases through an endangerment finding under the Clean Air Act also threaten to remove significant leverage from the Obama Administration's effort to bring disparate parties to the table in support of climate change legislation.



Rule 2019

The federal judiciary is under pressure from distressed-debt investors not to adopt proposed amendments to the Federal Rule of Bankruptcy Procedure 2019 that would require members of ad hoc creditor or investor committees in bankruptcy cases to disclose information about the date and price at which they obtained and/or sold interests in the debtor.

The proposed amendments were issued by the Advisory Committee on Bankruptcy Rules of the Judicial Conference of the United States (the Advisory Committee) on August 12, 2009 and would resolve recent inconsistencies in the application by the bankruptcy courts of Rule 2019 to ad hoc committees.

The Loan Syndications and Trading Association (LSTA) and Securities Industry and Financial Markets Association (SIFMA) argue that price information has no legal or practical relevance to the bankruptcy process and that mandatory pricing disclosures would drive parties away from participating in Chapter 11 proceedings, making it more difficult for debtors to negotiate a restructuring. While the proposal envisages that disclosure of pricing information would be at the court's discretion, prices can usually be easily determined if the transaction date is known, and disclosure of transaction dates would be mandatory under the proposed amendments.

The LSTA and SIFMA do, however, support certain aspects of the proposed amendments, to the extent that they would better enable the court to understand the size of an ad hoc group and its influence on the restructuring process.

The proposals are at a relatively early stage. If approved by the Advisory Committee, the amendments would then be considered by the Standing Committee on Rules of Practice and Procedure of the Judicial Conference of the United States before going to the Supreme Court for approval and then to Congress for review.

For more information, see Legal Update, LSTA and SIFMA Comment on Proposed Amendments to Controversial Bankruptcy Rule 2019 ( www.practicallaw.com/9-501-4040) .


Labor & Employment

EEOC Charges

Employers should anticipate that the number of charges filed before the Equal Employment Opportunity Commission (EEOC) will continue to increase in 2010 and should review human resources processes, particularly supervisor training, accordingly.

From FY2007 to FY2008, the EEOC saw a 15% increase in employment claims. Recently released 2009 statistics are comparable, and practitioners predict similar results in the coming year. EEOC charges are the required precursor to employment litigation alleging federal claims of discrimination, related retaliation and unequal pay. Not all EEOC charges result in civil litigation, but these lawsuits cannot proceed to court without an initial charge before the EEOC.

The EEOC statistics reflect:

  • Economic conditions in which employers discharge poor performers more quickly and employees endure longer periods of unemployment.

  • Changes in the Americans with Disabilities Act that make disability claims more difficult to defend.

  • Greater numbers of retaliation claims, in which employees claim they were mistreated for exercising their legal rights.

Employers should acknowledge that there is no way to foreclose the possibility of EEOC charges and employment litigation, but can take steps to reduce the risk. For example:

  • Train supervisors on how to document performance concerns, including:

    • what to write;

    • how to evaluate; and

    • the purpose of documents.

  • Assess managers not only on results, but also on how they manage employees.

  • Lessen the risk of retaliation claims by:

    • limiting the number of people who are made aware of protected activity;

    • training managers on fair treatment and adherence to company protocols;

    • automatically redistributing employer policies following internal complaints; and

    • creating a harassment prevention policy that specifically requires reporting of retaliation.



Improper Patent Marking

In light of a recent Federal Circuit decision, companies should take practical steps to minimize their exposure to potential liability for false and expired patent marking claims.

The US Court of Appeals for the Federal Circuit recently determined in Forest v. Bon Tool Company that the wording in the federal patent false marking statute (35 U.S.C. § 292) that refers to a fine of "not more than $500 for every such offense" applies on a per article basis. Before this decision, most courts had awarded a single fine of up to $500 for each instance of continuous false marking (for example, an entire manufacturing run or shipment), regardless of the actual number of items improperly marked.

The statute also allows for members of the general public to bring a false-marking case, and if successful, the plaintiff receives 50% of the imposed fine. The Federal Circuit's decision, which substantially increases the potential amount of damages available, may result in more improper patent marking claims as third parties may view filing claims as an opportunity for financial gain.

Courts do retain significant discretion in awarding fines and the statute itself requires wrongful intent: the improper marking must be done with an intent to deceive the public. However, because of the increased risks, companies with patent portfolios should take steps now to minimize liability, including:

  • Reviewing products (as well as related packaging and advertising) marked with patent numbers for expired or incorrect markings.

  • Promptly removing any expired patents and correcting any other errors for existing patent markings.

  • Monitoring patent expiration dates and promptly removing patent numbers from products on expiration.

  • Creating a procedure that ensures that each time the company launches a new product or modifies an existing product, the patent marking on that product (as well as related packaging and advertising) is evaluated.

Patent Term Adjustment Calculation

Patent applicants and patentees of recently issued patents (those that are still within the time period permitted by statute to request a recalculation) may want to review the patent term adjustment (PTA) calculated by the United States Patent and Trademark Office (USPTO) and determine whether they are eligible for reconsideration.

In Wyeth v. Kappos, the US Court of Appeals for the Federal Circuit found that the USPTO has been miscalculating the length of PTAs awarded to patent holders to compensate for certain USPTO delays during the prosecution of the patent. The result is that some patentees may be entitled to an extension of their patent terms.

Trademarks on Social Media Sites

Even if companies are not currently using (or planning to use) social media sites for marketing or promotional purposes, they should still consider registering their marks as usernames or handles on popular social media sites as one step in combating the unauthorized use and misuse of their marks by third parties.

With the spread of social media sites (like Facebook and Twitter), it has become all too easy for third parties to use others' trademarks. Cases of impersonation and name squatting have become commonplace. On many social media sites, companies can register their trademarks (as well as key variations) to prevent a third party from adopting them as that third party's user name. Before registering their trademarks with any individual site, companies should review the site's terms and conditions as some services will release a registered user name and allow others to use it if the account is inactive for too long. Twitter, for example, considers an account inactive if it has not been logged into or updated in six months. The site's terms of use often also provide information on remedies available to a trademark owner if its trademark and other intellectual property rights are being violated by other users.

For issues to consider when responding to third party misuse of company intellectual property on social media sites, see Monitoring and Responding to Third Party Use of Social Media: Best Practices Checklist ( www.practicallaw.com/3-501-1469) .


Real Estate

A Good Time to Go Green

Given the depressed state of the commercial real estate market, companies taking on new leases or reworking existing leases can afford to feel confident about their negotiating position in relation to provisions that seek to fix them with costs attributable to "green" initiatives.

As a result of local regulation, tax incentives for developers and tenants, and the emphasis most corporations now put on environmental issues, more and more buildings are being built or refurbished with environmentally-sensitive materials and technologies.

Some studies indicate that the use of green technology reduces a building's operating costs long term. At the same time, landlords often seek to pass on to tenants the upgrade costs through rent increases, repair obligations and so on.

A tenant wishing to occupy a "green" building should ascertain at the outset the real long-term operational costs, taking into account in particular the types of materials to be used for future repairs, the nature and costs of the utilities systems, limitations on the use of the building (for reasons of energy efficiency) and so on.

Once armed with this information, tenants can afford to take a firm line on resisting or reducing liability for these costs when negotiating new or revised lease terms. Given current low occupancy rates, landlords may be willing to compromise.



International Tax Treaties

Provisions in a new income tax treaty signed by the US on February 4, 2010 with Hungary could, if ratified, put an end to treaty shopping through that jurisdiction. The new treaty with Hungary would replace the current income tax treaty (ratified in 1979). The main difference between the current treaty and the new treaty is the addition of a limitation on benefits (LOB) provision. LOB provisions are designed to prevent third-country residents from treaty shopping (meaning, making investments through a treaty country to receive tax benefits not otherwise available to them).

Another eagerly-awaited new treaty, between the US and Chile, was signed on the same date. If ratified, that treaty would be only the second US income tax treaty with a South American country (the 1999 treaty with Venezuela was the first). The Chile treaty is based on the 2006 US Model Income Tax Treaty with certain modifications. Some of modifications include a:

  • Stricter LOB provision.

  • "Services" permanent establishment provision (meaning, companies merely performing services in another country could be deemed to have a permanent establishment and therefore subject to tax in that country).

Practitioners anticipate that both new treaties will be ratified by the Senate later this year.

Uncertain Tax Positions

The IRS recently announced a proposal to require disclosure of uncertain tax positions by certain taxpayers on a new schedule to their US federal income tax returns. Companies should review their FIN 48 workpapers to assess the potential impacts of this proposal and consider taking part in the comment process, which is open through March 29, 2010. For expert Q&A on the proposal and its potential impact, see Article, Expert Q&A on Proposed Disclosure of Uncertain Tax Positions ( www.practicallaw.com/5-501-5433) .


GC Agenda is based on interviews with leading experts from PLC Law Department Panel Firms. PLC would like to thank the following experts for participating in interviews for this month's issue:


Lee Van Voorhis
Weil, Gotshal & Manges LLP


Gary Holtzer
Weil, Gotshal & Manges LLP

Corporate Governance and Securities

David Lynn
Morrison & Foerster LLP

AJ Kess and Frank Marinelli
Simpson Thacher & Bartlett LLP

Dispute Resolution

Richard Donovan
Kelley Drye & Warren LLP

Amy Jane Longo
O'Melveny & Myers LLP

Ank Santens
White & Case LLP

Employee Benefits & Executive Compensation

Howard Pianko and Richard Loebl
Seyfarth Shaw LLP

Alessandra Murata
Skadden, Arps, Slate, Meagher & Flom LLP

Alvin Brown and Jamin Koslowe
Simpson Thacher & Bartlett LLP


Bonni Kaufman
Holland & Knight LLP

Jeffrey Gracer
Sive, Paget & Riesel P.C.

William Thomas
Skadden, Arps, Slate, Meagher & Flom LLP


Cathy Kiselyak Austin, Darren Cahr and Barry Sufrin
Drinker Biddle & Reath LLP

Roger Bora, Anthony Handal and Ash Patel
Thompson Hine LLP

Labor & Employment

Ian Bogaty and Sean Hanagan
Jackson Lewis LLP

GJ MacDonnell
Littler Mendelson

Ron Chapman and Hal Coxson
Ogletree, Deakins, Nash, Smoak & Stewart, P.C.

Tom Wilson
Vinson & Elkins LLP

Real Estate

Robert Krapf
Richards, Layton & Finger P.A.


Kim Blanchard
Weil, Gotshal & Manges LLP

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