:LPE:

I was at a conference last week where I heard an interesting tidbit, if it is true. An important securities law case is before the USSC right now, the Stoneridge v. Scientific-Atlanta case. In this case a cable company engaged in a scheme with its vendors to inflate the revenues of the cable company by paying higher prices to the vendors in return for higher advertising fees. The issue is whether the vendors can be sued under securities laws - they did not issue the false accounting statements that Stoneridge did, and claimed to have no knowledge of them, they were only aiding and abetting (to the tune of a $17M fraud). The theory of the case is knows as scheme liability, and people are wondering if it is going to get canned, because another case recently had a similar issue at stake - the banks who did the Enron side-deals in full knowledge they were fraudulent got off - which would further narrow the group of folks who get held liable for these schemes. You might say it would make an incentive to engage in such conduct, but at least it would make it a lot safer to do it if you’re going to do it anyway.

Here’s the tidbit. The SEC has filed a brief in support of the plaintiff position - the regulator approves of the prosecution and the theory of scheme liability. The Justice Department was supposed to file a similar brief (since it has jurisdiction over other types of fraud and collective liability), but after a call from the White House, it is said, declined to submit a brief in support of the plaintiffs. The fellow who told this story is chief counsel to the AFL-CIO, which wants to see this theory of liability approved by the court. I’m not sure of his sources.

The USSC has ruled that anti-trust principles don’t belong in securities regulation should be enforced, if at all, by the SEC. Link.

The case was about the practices underwriters use when selling an IPO. Depending on the deal, they use all sorts of, um, potentially anti-competitive behaviour during the process. There is the judgment about prices, which often sets them a bit low so that buyers get a good “pop” on the secondary market when trading starts, or pehraps even a pump and dump, but there are also promises extracted about overallotments, about allotments in other deals ad quid pro quo, and others, that could I suppose be anti-competitive. Quattrone comes to mind. But the SEC does not seem all that interested in enforcing these rules (perhaps they are just principles) and it appears to be the way business is done in the world’s largest capital market. Perhaps it says more about how capital markets work, and in particular how concentrated they are, on one hand, and on the other, how quixotic the notion of anti-trust is, or, put another way, free competitive markets.

Back to securities. This was one case that was trying to get beyond issuers, and get at the way the securities markets work. There are others out there, trying out scheme liability and other forms of collusion between actors in these markets. It is fraught with interesting problems, more on those soon.

Link.

The Globe’s story finds that more post-retirement health and welfare benefit plans are going to be reduced or cut by employers — according to an Aon study. A few days ago another study, a survey of employee attitudes, found that employees over-valued their H&W plan benefits — which means, they find them important, they provide security and would pay more for them if they had to. Looks like a divergence of views.

About the same time, the Globe and NYT published some figures on UAW wages, which were insanely out of touch. They claimed that UAW members made $75 an hour, but only about $25 in wages. The rest came from pension and benefit packages. This would mean that the average pension and benefit package was 2X the cost of the wage packet, or 66% of total compensation. It would take you about five minutes to find evidence that pension and benefit costs are somewhere from 10-20% of total compensation. It’s bizarre that a business reporter would not catch this basic error.

The difference comes from, I expect, including the cost of pensions and health and welfare benefits for retirees in the cost current employees compensation. I don’t have the numbers to back this up. It’s a bit of a stretch to claim that current employees are being “paid” the compensation going to retired employees.

The weekend Globe reports that the Canadian IPO market is nearly dead (in unrelated news, Canadians bought a record number of foreign securities for the third or fourth straight year running). The major cause: income trust tax. Conflating causes: cheap debt and renewed private equity vigor globally. Major conslusion: income trusts were a tax-driven bubble and so was a good deal of the Canadian IPO market till then. Still to see: whether a number of those trusts’ accounting tricks (non-GAAP measures) were hiding real underlying problems.

Another one for the deja vu all over again, the Feds are striking a committee of persons to study a single national securities regulator. Link.

Were the Wise Persons not wise enough? Could they possible conclude that a single regulator is a *bad* idea for Canadian capital markets? Is there any possible chance that regulator would not be a lot like the OSC? Wait, with baited breath.

I was at a seminar last week on securities lawsuits, and one of the issues mooted briefly was the Dura case of the USSC, which looks at the Us fraud on the market scheme, and requires that “loss causation” be established. That is, the bad behaviour (say, improperly hiding material information, then disclosing it) must cause the rise and then fall of the stock price.

One of the recent applications of Dura is Oscar Private Equity Investments v. Allegiance Telecom, Inc., 2007 WL 1430225 (5th Cir. May 16, 2007). In this case, the court stated:

the plaintiffs’ expert does detail event studies supporting a finding that [the company's] stock reacted to the entire bundle of negative information contained in the 4Q01 announcement, but this reaction suggests only market efficiency, not loss causation, for there is no evidence linking the culpable disclosure to the stock-price movement. When multiple negative items are announced contemporaneously, mere proximity between the announcement and the stock loss is insufficient to establish loss causation.

This would be funny if it were not actually a defence built into the current Securities Act (Ontario). It is necessary to establish that the disclosure caused the losses, not some other factors on the markets that day. This is more or less an incentive to disclose bad news in bundles, and preferably on a day when there is lot’s of bad news happening that will muddy the causal analysis. It’s more or less an incentive to further camoflage improper behaviour behind other things moving markets.

The pungent irony in Harper’s defence of contractual relations (”we respect contracts”) will not be lost on those members of the Progressive Conservative Party burdened with short-term memory. Barely four years ago the PC leader and now Minister of Foreign Affairs made a firm contractual promise not to merge with the then Canadian Alliance. That contract was rapidly broken, which led to Harper’s leadership of the CPC. We can accurately say that in fact the CPC was founded on a broken contract, and if Harper’s government has broken a contract, that is consistent with both principle and past practice.

A week or two ago the “tough measures” taken after the Enron scandal were once again eroded because they were apparently costing US capital markets too much money to implement (has anyone ever compared how much is costs *not to implement these types of rules?). Link.

Accounting standards are the heart of disclosure, and disclosure is the heart of the regulatory system overseeing publicly traded securities in the US (and Canada). If the numbers are fudged, disclosure doesn’t work so well. SoX was intended to ensure that those with the ability to ensure numbers are good (CEOs) are made responsible for ensuring numbers are good. This impulse may not have been unconnected to the number of CEOs who plead “I didn’t know” or “not my responsibility” when they are charged with securities violations. Apparently “knowing” is so costly and burdensome to this underpaid and overworked group of senior managers, that they need a public subsidy in the form of weaker or de-regulation.

A new study from CCPA by Brooks and Hwong correlating tax rates with social outcomes in several OECD countries, and surprise, the correlations show better social outcomes where tax rates are higher. The same kind of analysis hold longitudially as well, I think. Average tax rates in Canada and the US were higher in the period 1950 to 1975, and that was a period of both better economic growth (GDP/capita) and improved social outcomes (the usual things like life expectancy, income, etc.).

One interesting long-term marker of well-being I found recently in a history of the Victorian era was height - a number which shrank during the worst eras of the industrial revolution, where it appears that industrialization literally stunted human growth. This measure may be more widely used or accepted as a measure of health, I don’t know, but co-incidentally, I heard on CBC about a week ago that average height of US and Canadian men has, for the first time in 100 years, fallen below that of Western Europeans. I believe the news item reported that the Dutch were the tallest of the Europeans these days.

One popular theory goes that the US is a “dispersed share ownership” capital market, in which a large number of people own shares, which is equated, sometimes, with things like democracy and freedom and certainly with the proposition than anyone can get rich speculating in financial markets.

Some commentators have noted that despite there being relatively wide holdings, ownership is in fact concentrated in many ways: among the rich, primarily, but also among institutional investors.

Others have pointed out that capital markets are cyclical, and in the past 20 years, have retired more stock than they have issued, in effect disenfranchising citizens of the market economy and reducing freedom, among other things.

So, interesting to have little studies this this come along: Link

This study suggests that “dilution” has been decreasing the past several years, in part as share options have no longer been used to pay senior management (due to changes in accounting rules) and, the ISS says, increased vigor of shareholders monitoring dilution. These may be factors, but the secular trend (which is likely wider than that measured by ISS) suggests more systemic and fundamental reasons for the decline in dispersed ownership. What these reasons are, are a subject for another post or a decent academic study.