A new Iowa Business Corporation Act was enacted last year. Like Iowa’s current corporation statute (the “Act”), the legislation (HF 844) is based on the Model Business Corporation Act (“MBCA”) developed by the Corporate Laws Committee of the American Bar Association.

The MBCA is the basis for the corporation statutes in the majority of states. Various updates to the MBCA have occurred from time to time, and Iowa has adopted amendments to the Iowa Business Corporation Act as a result.

In 2016, the ABA Corporate Laws Committee published a new edition of the MBCA. It is the first comprehensive revision since 1984 (which Iowa adopted in 1989). The 2016 edition is in part a restatement of the MBCA that includes all amendments made since the previous version, but it also makes stylistic and editorial changes that are clarifying and adds important and useful provisions based on developments in corporate law around the United States. The Corporate Laws Committee of the Business Law Section of The Iowa State Bar Association met over a three-year period to work on proposed legislation for Iowa that resulted in the new Act.

Highlights of the New Act

Remote-only meetings of shareholders

The new Act includes a provision allowing for remote-only shareholder meetings. The previous Act did not include such a provision. During the recent pandemic, Iowa business corporations had to rely on the governor’s emergency proclamations to conduct remote-only shareholder meetings. The new Act provides that unless the bylaws require a meeting of shareholders to be held at a place, the board of directors may determine that any meeting of the shareholders need not be held at a place and may instead be held solely by means of remote communication, provided that the corporation implements measures to: (1) verify that each person participating remotely as a shareholder is a shareholder; and (2) provide that shareholders have a reasonable opportunity to participate in the meeting, including an opportunity to communicate, and to read or hear the proceedings substantially concurrently with such proceedings, and to vote on matters.^[1]

The new Act also amends other Iowa entity statutes, including Iowa’s nonprofit corporation statute, cooperative statutes, and insurance statutes, to allow for remote-only member or policyholder meetings.^[2] The remote-only meeting provisions for the different types of entities (including business corporations) became effective upon enactment of the new Act.^[3]

Ratification of defective corporate actions

From time to time, a corporation may determine that, due to a misjudgment or oversight, certain actions may have been invalid. This could occur where there was an over-issuance of shares beyond the amount authorized in the articles of incorporation or where a transaction is within the corporation’s power but there was a failure of authorization as a result of procedural misstep. The new Act includes a ratification process that allows corporations to validate defective actions retroactively while fully protecting shareholder rights.^[4] The goal of these provisions is to protect the parties’ reasonable expectations as well as the shareholders’ rights and interests while securing compliance with Iowa’s corporate law. The ratification of defective corporate acts can be adjudicated by the courts as well as accomplished by the corporation itself. This process has proved to be extremely helpful to corporations in other states, including Delaware.

Director duties and liability/liability shield

Iowa’s current Act provides a description of the duties of directors, required standards of conduct, and standards of liability; these remain unchanged in the new Act.^[5] The effect of such a liability shield was the focus of a recent Iowa Supreme Court decision (Meade v. Christie, 974 N.W.2d 770 (Iowa 2022)), which is discussed in Stanley Keller’s article on recent decisions relevant to the MBCA. In addition, the previous Act authorized a corporation to include in its articles a provision that limits or eliminates monetary liability for any actions or failures to act subject to limited exceptions.^[6] The new Act retains these provisions and authorizes an additional liability shield. Under the new Act, a corporation may include a provision in the articles of incorporation that eliminates or limits any duty of a director to offer the corporation the right to a corporate or business opportunity before it can be pursued or taken by the director or other person.^[7] This provision is consistent with developments in LLC law and reflects an increasingly contractual or enabling approach to business law. Such a provision might be useful, for instance, with regard to a private equity investor that desires to have a nominee on the board but conditions its investment on limitation or elimination of the corporate opportunity doctrine because of the uncertainty about its application on account of the investor’s investments in multiple enterprises and specific industries. This provision also may be helpful in the situation of a joint venture or closely held corporation where the participants want to be sure that the corporate opportunity doctrine would not apply to their activities outside of the joint venture.^[8]

Officer’s duty to inform

Iowa Code section 490.842 continues to set forth the standards of conduct for officers, including the circumstances in which the persons on whom an officer may rely in discharging his or her duties. Under the new Act, the section is amended to require that an officer: (1) inform the superior officer to whom the officer reports, or the board of directors or the board committee to which the officer reports, of information about the affairs of the corporation known to the officer, within the scope of the officer’s functions, and known to the officer to be material to such superior officer, board, or committee; and (2) inform the officer’s superior officer, or another appropriate person within the corporation, or the board of directors, or a board committee, of any actual or probable material violation of law involving the corporation or material breach of duty to the corporation by an officer, employee, or agent of the corporation, that the officer believes has occurred or is likely to occur. A similar requirement is recognized in agency law^[9] and already imposed on directors.^[10]

Forum selection provision in bylaws

Under the new Act, a corporation is able to include in its bylaws a requirement that internal corporate claims be brought exclusively in a specified court or courts of Iowa or in any other chosen jurisdictions with which the corporation has a reasonable relationship.^[11] Still, such a provision may not prohibit bringing internal corporate claims in courts in Iowa, nor may it require such claims to be determined by arbitration. The term “internal corporate claim” is defined broadly to mean any of the following: (1) any claim that is based on a violation of a duty under the laws of Iowa by a current or former director, officer, or shareholder in such capacity; (2) any derivative action brought on behalf of the corporation; (3) any action asserting a claim arising pursuant to any provision of the Act, the articles of incorporation, or bylaws; and (4) any action asserting a claim governed by the internal affairs doctrine that is not included above. A forum selection provision can be an effective way for corporations to reduce litigation costs and enable Iowa courts to interpret Iowa law in the first instance.

Judicial determination of corporate offices and review of elections and shareholder votes

Under the previous Act, there was no provision for judicial review of elections and shareholder votes and determination of corporate offices. Under a section added by the new Act, the Iowa District Court has authority to determine the following issues: (1) the results or validity of an election, appointment, removal, or resignation of a director or officer of the corporation; (2) the right of an individual to serve as a director or officer; (3) the result or validity of any vote by shareholders; (4) the right of a director to membership on a board committee; (5) the right of a person to nominate or an individual to be nominated for election or appointment as a director, and (6) other comparable rights under the corporation’s articles or bylaws.^[12]

Domestication and conversion

The previous Act included provisions allowing for the conversion of a business corporation into another type of entity as well as the conversion of another entity into an Iowa business corporation. The new Act revises and relocates provisions authorizing conversion transactions, and it adds sections authorizing domestication, a procedure by which a foreign corporation can become an Iowa corporation or an Iowa corporation can change its jurisdiction of incorporation, assuming in each case the law of the other jurisdiction also authorizes the procedure.^[13]

Medium-form mergers

The previous Act included provisions for merger of a business corporation with another corporation or eligible entity, subject to shareholder approval. It also included a provision allowing for a merger without a shareholder vote when the acquiring entity owns more than ninety percent of the outstanding shares of the entity to be acquired. The new Act adds a provision to permit a “two-step” merger without a shareholder vote following a tender offer if sufficient shares are owned after the tender offer—namely, those owned before and as a result of the tender—to have approved the merger (typically, approval by a majority of the outstanding shareholder votes entitled to be cast).^[14]

Corporate records and reports

The previous Act provided rights to shareholders to inspect records. The new Act includes a comprehensive revision of the chapter on that subject to modernize shareholder access to information while protecting interests of the corporation. The organization of this chapter is improved and more comprehensive; importantly, the board can condition inspection upon agreement to confidentiality restrictions.^[15]

Benefit corporations

The new Act includes provisions allowing for the incorporation of benefit corporations in Iowa as well as the election of existing Iowa business corporations to become benefit corporations.^[16] Unlike an ordinary business corporation, which has been held to have shareholder primacy as a focus,^[17] a benefit corporation provides an option to mandate the interests of other stakeholders that are “known to be affected by the business of the corporation” to be at the same level as shareholders.^[18] The new Act contemplates pursuit “through the business of the corporation [of] the creation of a positive effect on society and the environment” as well as any other public purpose set forth in the articles of incorporation.^[19] Important in the analysis is not just what the corporation does but how it conducts its business and operations.^[20] The new Act includes provisions addressing the duties imposed on directors, required “benefit” reporting, and conditions for bringing any shareholder action.^[21] With the new Act, Iowa joins the nearly forty jurisdictions that have enacted benefit corporation statutes.

Official Comment

An important benefit of the MBCA is the Official Comment that may be used by practitioners and courts in interpreting and applying in practice various provisions and requirements in the MBCA. The 2016 Revision of the MBCA includes a new set of updated Comments. The Official Comment for prior editions of the MBCA is now out-of-date.

Unique IBCA provisions remain in statute

The new Act tracks the 2016 MBCA but continues to be tailored to reflect Iowa’s experience and preferences. As a result, the new Act includes non-MBCA provisions. These include the community interest provision that allows directors to consider interests other than shareholders’ interests when evaluating a tender offer or proposed business combination,^[22] the provision on business combinations with interested stockholders,^[23] the foreign-trade zone corporation provision,^[24] provisions on names and reinstatement following administrative dissolution,^[25] and provisions on filing of biennial reports.^[26]

Secretary of State business filings

In other states, including Delaware, the secretary of state’s office allows for pre-filing clearance review of documents as well as expedited filing services for a fee. These services are extremely beneficial to businesses of all types. Although not part of the MBCA, HF 844 includes provisions establishing these services with the Iowa Secretary of State’s office.

Conclusion

With the new Act, Iowa has a comprehensive and modernized statute that should enhance Iowa’s business climate and serve clients and their counsel well. In addition, by updating the Iowa Business Corporation Act, Iowa is able to continue to take advantage of a useful body of law that develops around the United States that will help increase the certainty and efficiency of corporate actions and corporate transactions.^[27]

This article originally appeared in the Winter 2022 issue of The Model Business Corporation Act Newsletter, the newsletter of the ABA Business Law Section’s Corporate Laws Committee. Read the full issue and previous issues on the Corporate Laws Committee webpage. It was adapted there from an article that was first published in “The Iowa Lawyer” (August 2021) and is reprinted with permission from The Iowa State Bar Association.

The views expressed in this article are solely those of the author and not Nyemaster Goode, P.C. or its clients. No legal advice is being given in this article.

1. Iowa Code §490.709. All Iowa Code citations are to citations in the new Act which, with the exception of the remote-only meeting provisions, become effective January 1, 2022. ↑

2. Iowa Code §§491.17, 515.25, 518.6A, 518A.3A, 499.27A, 499.64, 501.303A, 501A.807, 504.701, 504.702A, and 504.705. ↑

3. HF 844, §230(2). The enactment date was June 8, 2021. ↑

4. Iowa Code §§490.145 – 490.152. ↑

5. Iowa Code §§490.830 – 490.831. ↑

6. Iowa Code §490.202(2)(d). ↑

7. Iowa Code §490.202(2)(f). ↑

8. Model Business Corporation Act (2016 Revision), § 2.02, Official Comment. ↑

9. Restatement (Third) Agency, § 8.11 (Duty to Provide Information). ↑

10. Iowa Code §490.830(3). ↑

11. Iowa Code §490.208. ↑

12. Iowa Code §490.749. ↑

13. Iowa Code §§490.901A-490.935. ↑

14. Iowa Code §490.1104(10). ↑

15. Iowa Code §§490.1601-.1602. ↑

16. Iowa Code §§490.1701. ↑

17. Compare Iowa Code §490.1108A, which expressly allows a board to consider the interests of other stakeholders but does not require it. ↑

18. Iowa Code §§490.1701, 490.1704. ↑

19. Iowa Code §490.1701(2)(d). ↑

20. MBCA, §17.04, Official Comment. ↑

21. Iowa Code §§490.1704 and 490.1705. ↑

22. Iowa Code §490.1108A. ↑

23. Iowa Code §490.1110. ↑

24. Iowa Code §490.209. ↑

25. Iowa Code §490.1422. ↑

26. Iowa Code §490.1621 (currently, §490.1622). ↑

27. See Corporate Laws Committee, Model Business Corporation Act (2016 Revision), 72 Bus. Law 421, 430 (2017). ↑

The opioid epidemic that has gripped this country for decades has spurred more than 2,000 lawsuits and led to billions of dollars in damages. AmerisourceBergen Corporation (the “Company”), one of the “big three” wholesale pharmaceutical distributors, has paid over $6 billion in damages and incurred over $1 billion in legal fees in connection with its role in the crisis. In Lebanon County Employees’ Retirement Fund et al., v. Collis, et al., the Company’s stockholders sought to hold the Company’s directors and officers personally liable for those damages and fees. 2022 Del. Ch. LEXIS 358 (Del. Ch. Dec. 22, 2022).

The Defendants moved to dismiss the action, claiming that because the action was derivative the Plaintiffs were required, but failed, to satisfy the rigorous “demand futility” requirement of Court of Chancery Rule 23.1. Plaintiffs argued that demand was futile because each of the Defendants faced a substantial likelihood of liability. Id. at *40–49.

On December 22, 2022, Vice Chancellor Laster issued an opinion dismissing the action. While there is a plethora of cases addressing demand futility, the Court’s opinion in this case is notable because of the high-profile nature of the allegations, and the fact that the Court dismissed the case notwithstanding its finding that the allegations would ordinarily be sufficient to survive a motion to dismiss.

Plaintiffs’ first argument was that the Defendants breached their fiduciary duty of care by ignoring several red flags that demonstrated the Company was not in compliance with federal regulations that required pharmaceutical distributors to maintain effective controls against the diversion of opioids to improper channels (known as “Anti-Diversion Policies”). Id. at *3.

The Court considered each of the red flags (which included the Company’s receipt of subpoenas and information requests from the attorneys general of forty-one states and numerous United States Attorneys’ offices; internal audit reports that raised questions about the Company’s compliance structure; congressional investigations and conclusions that found the Company failed to meet its reporting obligations; and the Company’s involvement in [and settlement of] several lawsuits regarding its compliance practices) and concluded that they would ordinarily be sufficient to overcome a motion to dismiss. Id. at *40–49. In fact, the Court held that the allegations demonstrated that the Defendants “did not just see red flags; they were wrapped in them.” Id. at *48.

That holding, however, did not end the Court’s analysis. The Court then looked to the United States District Court for the Southern District of West Virginia’s decision in City of Huntington v. AmerisourceBergen Corp. (2022 U.S. Dist. LEXIS 117322 [S.D. WV, 2022]), which held that the Company’s Anti-Diversion Policies were appropriate. Based on that holding, the Court found that the Defendants did not face a substantial likelihood of liability because it was impossible to infer that the Company failed to comply with its anti-diversion obligations. Id. at *50–51.

Plaintiffs’ second argument was that the Defendants caused the Company to put profitability over its compliance obligations by: (i) revising its oversight policy to make it harder for a sale to be deemed suspicious, and providing less oversight to sales to smaller and more profitable pharmacies; and (ii) entering into agreements with a large pharmacy chain that was under investigation by the DEA. The Court again concluded that the allegations in the complaint were sufficient to overcome the motion, however; because the West Virginia Court determined that the Company’s Anti-Diversion Policies were adequate, and therefore did not violate the law, the Court could not infer that the Defendants faced a substantial threat of liability for their conduct. Id. at *56.

While Vice Chancellor Laster’s decision provides helpful recitations of law, perhaps the most important theme is one that has been echoed by the Delaware Chancery Court for years—that equity is not a plug-and-play concept, and the Court may be required to consider the larger picture.

Providing the correct debtor name on a financing statement is a critical part of the process of perfecting security interests under Article 9 of the Uniform Commercial Code (“UCC”). This article will review fundamental debtor name concepts and special debtor name concerns, and identify a number of traps for the unwary attorney.

The purpose of filing financing statements is to provide notice of the claimed security interests. The ability of a UCC financing statement to serve its notice function depends on whether an interested party can locate the record. This is where the debtor name becomes particularly important.

Filing office search systems are designed to retrieve UCC records by debtor name. These systems generally report only exact matches to the name searched after the filing office has applied its standard search logic. With the way these systems are designed to operate, any error, omission, or variation in the debtor name, no matter how small, can prevent a search of the correct debtor name from locating the record.

The UCC recognizes the importance of accurate debtor names in this process by providing specific rules for different types of debtors in UCC Section 9-503(a). The code also provides harsh consequences for the secured party when a financing statement does not comply with the debtor name rules. With one exception, a financing statement that fails to sufficiently provide the debtor name in accordance with Section 9-503(a) will render the financing statement seriously misleading and not effective under Section 9-506(b).

The exception occurs when a search of the filing office records on the correct name of the debtor, using the jurisdiction’s standard search logic, if any, would disclose the record. In such cases, the insufficient debtor name does not render the financing statement seriously misleading. Unfortunately, the search logic test provides little protection. The search logic used by most jurisdictions will only disregard minor variations in punctuation, ending noise words, a leading “the”, and spacing. Even these general search logic steps differ somewhat from state to state.

Debtor Names for Organizations and Series of Entities

With so much riding on correct debtor names, one might expect that those who file UCC records would strictly comply with the Section 9-503(a) name rules. Many filers do so, but such compliance can be a challenge. To arrive at the correct debtor name, the filer must often disregard distractions that could lead them astray. If the debtor is a registered organization, for example, the financing statement must provide the name stated to be the name of the organization in the public organic record. “Public organic record” is a defined term in Article 9 and generally refers to the formation documents that state the name of the entity. However, other public records, including tax returns, certificates of good standing, and other official sources, often contain multiple variations of an entity’s name. Unless the filer understands what constitutes the public organic record and resists the temptation offered by other potential name sources, there is a substantial risk of error.

Another challenge for filers is what name to provide on the financing statement for an increasingly popular type of debtor: the series of an entity. In recent years several states have enacted legislation that permits limited liability companies and other entities to create series. A series has no existence apart from the entity under which it was formed. However, a series can have its own members, assets, and liabilities. A series can also contract, sue or be sued, and have a liability shield from the obligations of other series or the parent company.

There continues to be uncertainty regarding what name to provide for the debtor when the security interest is granted by the series of an entity. Much depends on the particular state law under which the series was formed. Filers must take care to determine what debtor name could be correct for a series debtor and list that name or any potentially correct names as separate debtors on the financing statement.

Names for Individual Debtors

Since the 2010 Amendments to UCC Article 9 were enacted across the country, determining the correct name of an individual debtor has been easier. Generally, the financing statement must provide the name indicated on the debtor’s driver’s license or, if permitted by applicable state law, the non-driver’s identification card. Nevertheless, there are still plenty of traps for the unwary, such as how to extract an unusual name from the driver’s license or what to do if the debtor lacks the designated identification documents.

Final Thoughts

The foregoing discussion represents the greatest concerns for attorneys who file UCC records, but there are other types of debtors as well. The debtor name requirements when the collateral is held in a trust or administered by a decedent’s personal representative, for example, are not always intuitive, leading to a number of common errors. Likewise, filers often struggle when the debtor doesn’t have a name, such as with an unnamed, as might be the case with an unnamed general partnership or similar entity.

In summary, strict compliance with the UCC Article 9 debtor name rules is always important. Those who file UCC records should provide the name required by UCC Section 9-503(a) exactly as it appears on the designated source document, including matching the spelling, spacing, and punctuation. If there is any doubt as to what Section 9-503(a) requires for the correct name, the filer should provide one or more name variations to ensure that whatever a court later decides was correct is contained on the financing statement.

This article is based on a CLE program that took place during the ABA Business Law Section’s 2022 Hybrid Annual Meeting. To learn more about this topic, view the program as on-demand CLE, free for members.

A lawsuit filed by the U.S. Securities Exchange Commission (“SEC”) against Ripple Labs, Inc. (“Ripple Labs”), creator of the popular cryptocurrency token known as XRP, represents a turning point for the cryptocurrency and wider blockchain-technology industries in their relationship with regulators. As a significant part of the SEC’s cryptocurrency enforcement campaign, the agency’s case against Ripple could have substantial implications for the SEC’s authority over digital assets in general, with important impacts on U.S. blockchain network operations.

Absent clear legislative measures by Congress, the SEC has stepped into the regulatory void as the blockchain industry has roiled with a series of bankruptcies and controversies in recent months. In November, the prominent cryptocurrency exchange FTX filed for bankruptcy after reports suggested liquidity and solvency questions for the firm. Later in the month, crypto lender BlockFi—for which FTX was a substantial creditor—initiated its own bankruptcy proceedings, citing liquidity concerns stemming from the FTX matter. Amidst such crypto asset market mayhem, the SEC recently warned U.S. companies that they may have disclosure obligations regarding the impacts the crypto market downturn has had or may have had on their business.^[1]

In SEC v. Ripple, the parties have now completed briefing on summary judgment in the case, which lies at the convergence of cryptocurrency, blockchain technology, and the scope of the SEC’s regulatory authority—namely, whether digital asset tokens, in a variety of market conditions and circumstances, can be considered “investment contracts” subject to federal securities laws. That dry, legalistic question lies at the heart of the SEC’s authority here: If so, such assets arguably fall under the SEC’s regulatory authority; if not, they do not. With closing briefs due before Christmas 2022, a resolution is expected sometime in the first quarter of 2023.

Without a federal law adequately addressing blockchain regulation, regulators and market participants have had to consult the history books to determine when a crypto asset may be a security. In the landmark case SEC v. W.J. Howey Co., 328 U.S. 293 (1946), the U.S. Supreme Court devised a test to determine when an investment contract is present in any contract, scheme, or transaction. Under the “Howey Test,” the following characteristics must be present for an investment contract to be evidenced: (1) an investment of money (2) in a common enterprise (3) with a reasonable expectation of profits (4) derived from the efforts of others. While subsequent case law has refined the Howey Test and its application, the essence remains the same.

Of course, the Ripple matter is not the SEC’s first attempt at regulating blockchain products, and one recent win for the agency—in SEC v. LBRY—could bolster its arguments on summary judgment. Still, the agency’s grasp on the blockchain industry is far from secure, as Congress continues to weigh legislation that could clarify the government’s approach to these products.

The three sections of this article examine these aspects of the Howey–digital asset issue in turn. In the first section of this article, we briefly discuss the facts and outcome of the SEC’s win against LBRY Inc. and how that ruling implicates the same issue in the SEC’s battle against Ripple. From there, we dive into SEC v. Ripple by outlining each side’s arguments with respect to the Howey test. Finally, we discuss the extent the whole issue could be annulled if Congress passes legislation clarifying the regulatory boundaries surrounding cryptocurrency and blockchain technologies, even after a ruling in Ripple.

SEC v. LBRY Inc.: A Potential Roadmap for the SEC

In November, the Howey–digital asset issue received attention in a now-resolved matter—SEC v. LBRY, Inc.

LBRY, Inc. runs a popular “open-source” and “community-driven” digital content marketplace (the “LBRY Network”) that offers a blockchain-based alternative to platforms such as YouTube, Spotify, and Instagram.^[2] Part of the LBRY Network’s advertised appeal as an alternative content-creation platform was that content creators are never at risk for demonetization or de-platforming since the LBRY protocol is decentralized. Central to this scheme was the LBRY Credit or “LBC,” which was created as a means to incentivize network transaction validation (also known as “mining”).^[3] The token could be spent on the LBRY Network to publish content, tip content creators, purchase paywalled content, or purchase advertisement boosts.^[4]

In March 2021, the SEC brought an enforcement action in New Hampshire federal court alleging that LBRY Inc. had sold LBC to U.S. investors to fund LBRY’s business and build its product—a violation of the same federal securities registration requirements at issue in SEC v. Ripple.

LBRY Inc. had two responses. First, it argued that LBC functions as a digital currency that is an essential component of the LBRY Network, which was already fully developed and launched prior to any offer or sale of LBC. Second, LBRY Inc. asserted that the SEC’s attempt to treat LBC as a security violated its right to due process because the SEC did not give LBRY Inc. fair notice that its LBC offerings were subject to the securities laws.^[5] To support its positions, LBRY Inc. indicated that the SEC’s prior enforcement actions focused only on digital assets offered in Initial Coin Offerings, or “ICOs,” and never against a fully developed product like the LBRY Network.

On November 7, 2022, Judge Peter Barbadoro of the U.S. District Court for the District of New Hampshire granted the SEC’s motion for summary judgment against LBRY Inc., holding that the company had offered and sold LBC as a security in violation of the registration provisions of the federal securities laws. The judge further noted that LBRY Inc. was in “no position” to claim that it lacked fair notice of the application of those laws, concluding that LBRY did not offer “any persuasive reading of Howey that would cause a reasonable issuer to conclude that only ICOs are subject to the registration requirement.”^[6]

The ruling could have important implications for Ripple because it lends theoretical support to the SEC’s position, although the SEC v. LBRY Inc. ruling is limited to a single district court with fact-specific holdings. Consistent with LBRY Inc.’s arguments, the ruling in that case marked a departure for the SEC, as every prior enforcement action had focused on issuers of digital tokens who had conducted ICOs. Like LBC, the XRP tokens at issue in Ripple were not issued through an ICO.

Similarities also exist in the conduct of the LBRY and Ripple Labs executive teams. In a Reddit post, LBRY Inc. had stated that the company “reserved 10% of all LBRY Credits to fund continued development and provide profit for the founders. Since Credits only gain value as the use of the protocol grows, the company has an incentive to continue developing this open-source project.”^[7] Judge Barbadoro’s summary judgment decision noted that because LBRY Inc. retained its own tokens, reasonable purchasers could understand that decision as a signal that “[the purchaser] too would profit from holding LBC as a result of LBRY’s assiduous efforts.” Furthermore, “by intertwining LBRY’s financial fate with the commercial success of LBC, LBRY made it obvious to its investors that it would work diligently to develop the [LBRY] Network so that LBC would increase in value.”^[8]

Similarly, the SEC has asserted in its action against Ripple Labs that the company’s co-founder and current chair Christian Larsen and CEO Bradley Garlinghouse—both named defendants in the matter—structured and promoted XRP sales to finance the company’s business and “also effected personal unregistered sales of XRP totaling approximately $600 million.”^[9]

While the SEC v. LBRY Inc. ruling is limited to a single district court, the SEC’s victory in Ripple may be a harbinger of a looming regulatory crackdown against the broader cryptocurrency industry that would be given the go-ahead if the SEC wins its case versus Ripple Labs. And the implications for market actors can, of course, be dramatic: In a Twitter thread posted weeks after the summary judgment decision, LBRY wrote, “LBRY Inc. will likely be dead in the near future…the company itself has been killed by legal and SEC debts…[although] the LBRY protocol and blockchain will continue.”^[10]

Ripple’s Battle with the SEC

Ripple Labs is a software company that dubs itself the “leading provider of crypto-enabled solutions for businesses,” the strategy for which includes use of its own XRP blockchain and native cryptocurrency token under the same name to facilitate cross-border payments, cryptocurrency liquidity, and the implementation of central bank digital currencies.^[11] Ripple first launched its XRP blockchain and native cryptocurrency token in June 2012. At one point, XRP was the third largest cryptocurrency in terms of market capitalization, although since then it has fallen to sixth, at around $17.6 billion as of January 4.^[12]

In December 2020, the SEC filed a complaint in the Southern District of New York arguing that Ripple Labs, along with its Chairman and CEO, had violated Sections 5(a) and 5(c) of the Securities Act of 1933 by engaging in the unlawful offer and sale of securities.^[13] In September 2022, both sides filed for summary judgment, asking the court to decide whether XRP qualifies as a security and thus needs to be regulated pursuant to the Securities Act.

The SEC’s complaint alleges that, beginning in 2013, Ripple Labs, Larsen, and Garlinghouse raised funds through the sale of XRP in an unregistered securities offering. The agency also alleges that Ripple Labs distributed billions of XRP in exchange for non-cash considerations, like labor and market-making services.^[14]

The SEC posits that Ripple Labs’ offering and sale of XRP straightforwardly qualify as an investment contract under the Howey Test. While the SEC deems numerous features of Ripple’s offering significant, the primary features of the agency’s argument are as follows. The SEC argues that the first prong of the Howey Test is met because purchasers obtained XRP through cash and non-cash considerations (and so made an investment of money). The SEC argues that the second prong is met—that the investment is in a common enterprise—because Ripple Labs pooled funds obtained from purchases of XRP to fund and build its operation, which includes financing the development of XRP use cases. As to this factor, the SEC also cites the fact that XRP’s price rises and falls for all investors together equally. In effect, the SEC is attempting to establish the presence of vertical and horizontal commonality, which, in Howey case law, has been a manner to distinguish when a common enterprise is present. Vertical commonality is evinced either strictly by the fortunes of the investor being interwoven with and dependent upon the efforts and success of those seeking the investment or broadly by the success of an investor depending on a promoter’s expertise. Alternatively, horizontal commonality focuses on the relationship between investors in which their funds are pooled into a common enterprise.

In regards to the third and fourth prongs of the Howey Test, wherein investors are led to a reasonable expectation of profits derived from the efforts of others, the SEC contends that Ripple openly touted the token as an investment and took publicly advertised measures to ensure rising demand for XRP. According to the agency, Ripple Labs “gave specific details of the efforts it would undertake to find ‘uses’ for XRP, to attract others to the ‘ecosystem,’ to manage the supply of XRP, to get platforms to list XRP, and to develop uses for the ledger.”^[15] Further, the SEC focuses on the fact that XRP lacked a notable use, beyond mere speculative investment, well past its 2013 launch date. Ripple Labs originally announced that XRP would be a “universal digital asset” that would allow banks to transfer money, a promise which never actualized. Yet only five years after XRP’s launch, in 2018, did XRP have a product that permitted its use, Ripple Labs’ own On-Demand Liquidity Product (“ODL”), which targeted “money transmitter” businesses rather than individuals as potential users. Between October 2018 and June 2020, only 15 money transmitters were signed up to use ODL, and ODL transactions never amounted to more than 1.6% of XRP’s quarterly trading volume.

Whereas LBRY Inc. challenged the SEC as to only part of the Howey Test—the matter of whether purchasers were led to a reasonable expectation of profits derived from the efforts of others—the Ripple Defendants challenge the SEC on all four prongs of the Test.

When it comes to the first prong, Ripple Labs, Larsen, and Garlinghouse (“Ripple Defendants”) contend that, in many cases, there was no investment of money because Ripple Labs gave away more than two billion XRP tokens to charities and various grant recipients. Further, the Ripple Defendants argue that the second prong is not met—that there is no common enterprise—because Ripple Labs is not engaged in a profit-seeking business venture of which, according to Howey, must be present for the second prong to be met.^[16] The XRP Ledger, the Ripple Defendants point out, is decentralized and thus incapable of being controlled or managed by Ripple Labs. The Ripple Defendants also deny that horizontal and vertical commonality are present along similar lines (in addition to other circumstances), while also maintaining that vertical commonality is insufficient as a criterion for the second prong to be met even if established. The Ripple Defendants’ point regarding the company’s own control or lack thereof over the XRP Ledger dovetails well not only with the second prong but with the third and fourth: The decentralized nature of XRP, Defendants argue, prevents its purchasers from relying on Ripple Labs’ efforts for profit.

However, the Ripple Defendants’ main argument on the third and fourth prongs relies on the fact that Ripple Labs was never under any contractual obligation to promote XRP. In essence, Defendants claim that an investment contract cannot be present if there is no contract at all. Expanding on this point, the Ripple Defendants broadly argue that XRP lacks the “essential ingredients” of an investment contract, as interpreted by the courts since Howey, which the Ripple Defendants argue (1) involve an actual contract, (2) impose post-sale obligations on the promoter, and (3) entitle the purchaser to receive a profit, and that XRP lacks all of these characteristics.

In response, the SEC asserts that Defendants are relying on a “made up” test that ignores federal securities laws:

[T]hese common law contract terms are not required to satisfy Howey’s ‘expectation of profits’ inquiry. This part of the test is about expectations, not about commitments, a point supported by far more than just ‘out-of-circuit cases.’^[17]

Could It All Be for Nothing?

In LBRY and the still-pending Ripple case, the SEC is attempting to clarify its authority over blockchain matters. But a federal proposal could eradicate the issue entirely in the near future. In June, Senators Kirsten Gillibrand (D-NY) and Cynthia Lummis (R-WY) introduced the Responsible Financial Innovation Act^[18] (“RFIA”) in the Senate, which, among other things, aims to establish a comprehensive regulatory framework for digital assets in order to address the Howey–digital asset issue.^[19]

The RFIA introduces a new category of digital assets called “ancillary assets” to the Securities Exchange Act that would encompass “investment contracts.” The new category would be treated as “commodities” under the Commodity Exchange Act (“CEA”), rather than securities, and thus be subject to the regulatory authority of the Commodity Futures Trading Commission, or CFTC. Title III of the RFIA defines an “ancillary asset” as:

an intangible, fungible asset that is offered, sold, or otherwise provided to a person in connection with the purchase and sale of a security through an arrangement or scheme that constitutes an investment contract, as that term is used in section 2(a)(1) of the Securities Act of 1933 (15 U.S.C. 77b(a)(1)).^[20]

While unlikely to become law before the congressional session adjourns on January 3, 2023, the RFIA represents a potential yet long-anticipated legislative answer to problems created by regulatory gaps pertaining to the cryptocurrency and broader blockchain technology industries. And the bill—or another like it—could solidify the regulatory landscape in place of the SEC’s ad hoc approach thus far.

1. Hamilton, Jesse, and Nikhilesh De, “SEC Tells US-Listed Companies They’d Better Disclose Crypto Damage.” Coindesk, December 8, 2022, available at: https://www.coindesk.com/policy/2022/12/08/sec-tells-us-listed-companies-theyd-better-disclose-crypto-damage/. ↑

2. Lbry.com Frequently Asked Questions. Last accessed December 29, 2022, available at: https://lbry.com/faq/what-is-lbry. ↑

3. Securities and Exchange Commission Litigation Release No. 25573, “SEC Granted Summary Judgment Against New Hampshire Issuer of Crypto Asset Securities for Registration Violations.” SEC, November 7, 2022, available at: https://www.sec.gov/litigation/litreleases/2022/lr25573.htm. ↑

4. SEC v. LBRY, Inc., 21-cv-260-PB. Opinion issued November 7, 2022, available at: https://www.nhd.uscourts.gov/sites/default/files/Opinions/2022/22NH138.pdf. ↑

5. Ibid. ↑

6. SEC Litigation Release No. 25573, supra note 3. ↑

7. SEC v. LBRY, Inc., supra note 4. ↑

8. Ibid. ↑

9. Securities and Exchange Commission Press Release 2020-338, “SEC Charges Ripple and Two Executives with Conducting $1.3 Billion Unregistered Securities Offering.” SEC, December 22, 2020, available at: https://www.sec.gov/news/press-release/2020-338. ↑

10. LBRY Inc. [@LBRYcom]. Tweet. November 29, 2022, available at: https://twitter.com/LBRYcom/status/1597723017626681344?s=20&t=91wTz6nXR7L9R3rC0Rf1Dw. ↑

11. Ripple.com Frequently Asked Questions. Last accessed December 28, 2022, available at: https://ripple.com/faq/. ↑

12. Source: CoinMarketCap, “All Cryptocurrencies.” Last accessed January 3, 2023, available at: https://coinmarketcap.com/all/views/all/. ↑

13. SEC Press Release 2020-338, supra note 9. ↑

14. Ibid. ↑

15. SEC v. Ripple Labs, Inc., et al. 1:20-cv-10832-AT-SN. Plaintiff SEC’s Reply Memorandum of Law in Further Support of its Motion for Summary Judgment. December 2, 2022, available at: https://fingfx.thomsonreuters.com/gfx/legaldocs/myvmoneblvr/SECURITIES%20CRYPTO%20RIPPLE%20sec%20brief.pdf. ↑

16. SEC v. Ripple Labs, Inc., et al. 1:20-cv-10832-AT-SN. Defendants’ Reply in Support of Motion for Summary Judgment. December 2, 2022, available at: https://fingfx.thomsonreuters.com/gfx/legaldocs/gkvlwgobopb/SECURITIES%20CRYPTO%20RIPPLE%20brief.pdf. See Howey; this claim is a reference to the following (emphasis added): “A common enterprise managed by respondents or third parties with adequate personnel and equipment is therefore essential if the investors are to achieve their paramount aim of a return on their investments. Their respective shares in this enterprise are evidenced by land sales contracts and warranty deeds, which serve as a convenient method of determining the investors’ allocable shares of the profits. The resulting transfer of rights in land is purely incidental. Thus all the elements of a profit-seeking business venture are present here. The investors provide the capital and share in the earnings and profits; the promoters manage, control and operate the enterprise. It follows that the arrangements whereby the investors’ interests are made manifest involve investment contracts, regardless of the legal terminology in which such contracts are clothed.” ↑

17. SEC v. Ripple, Inc., et al. SEC’s Reply Memorandum in Support of Motion for Summary Judgment, supra note 15. ↑

18. Senate Bill 4356 (2022), available at: https://www.congress.gov/bill/117th-congress/senate-bill/4356/all-info. ↑

19. Gray, Jake. “Responsible Financial Innovation Act Proposal to Bolster CFTC Authority Over Crypto-Industry.” Ifrah Law, July 8, 2022, available at: https://www.ifrahlaw.com/ifrah-on-igaming/responsible-financial-innovation-act-proposal-to-bolster-cftc-authority-over-crypto-industry/. ↑

20. §301; Proposed § 41(a)(1)(A). ↑

Attorney Kathleen McLeroy has been selected as the 2022 recipient of the American Bar Association (ABA) Business Law Section’s Jean Allard Glass Cutter Award. The award is presented to an exceptional woman business lawyer who has made significant contributions to the profession and the Business Law Section, achieved professional excellence in her field, and advanced opportunities for other women in the profession and Business Law Section.

Kathleen paved her own path to becoming an accomplished trial lawyer. She began her career as bank loan officer where she gained business expertise and insight into a banking client’s perspective. Today, as a shareholder at Carlton Fields, P.A., Kathleen represents commercial banks, mortgage holders, property owners, insurers, and real estate developers in disputes. She has extensive experience resolving disputes as a litigator, mediator, and arbitrator. In addition, she works with judgement holders to enforce and collect domestic and international judgements. Her business acumen and legal expertise supply her clients with astute legal advice to meet their business goals and needs. Kathleen earned her MBA at Louisiana State University and JD from Washington and Lee University School of Law.

Kathleen McLeroy, 2022 Jean Allard Glass Cutter Award Recipient.

According to Law360, women constitute only 23% of equity partners at law firms—Kathleen is one such equity partner. Her hard work representing her clients and pro bono clients alike exemplifies how she has overcome hurdles within the legal profession. Her path to becoming an equity partner was no simple feat as she dedicated thousands of billable and nonbillable hours in her profession; she continues be a pillar of representation for women at the equity partner level. Her peers agree that Kathleen is a committed leader.

Kathleen’s devotion to the legal field extends beyond her clients, as she represents individuals on pro bono matters ranging from landlord-tenant disputes to mortgage foreclosure actions. Kathleen spends countless hours improving access to justice for those who cannot afford legal representation. For example, she represented an elderly client faced with excessive fees that were unrelated to the relevant loan instruments. Kathleen spent countless hours reviewing documents and understanding every detail of the case before justice could be served to her pro bono client. She worked tirelessly for thirteen months to reinstate the client’s mortgage, as the client was the head of household for her daughter; her son, who has a disability; and two grandchildren. Kathleen’s advocacy plays a pivotal role in her career within her local community and extends throughout the United States. She champions the rights of her pro bono clients and associations.

When Kathleen was the president of the Bay Area Legal Services (BALS), she increased and diversified the organization’s funding, which led to improved technology and staff. Most notably, she ran a successful campaign to raise $500,000 for the BALS’s endowment. She has also chaired the ABA Business Law Section’s Pro Bono Committee, served on the ABA Commission on Interest on Lawyer’s Trust Accounts, and was a member of the inaugural board of directors for the Florida Justice Technology Center (FJTC). Her leadership in the area of IOLTA resulted in a Florida Supreme Court mandate—since emulated nationwide—requiring that IOLTA monies be used to fund civil legal services and be paid interest rates commensurate with those offered to non-IOLTA depositors.

While her accomplishments are evidenced by Kathleen’s numerous speaking engagements, published articles, and awards received, the arduous labor behind the scenes is not captured through the same lens. Kathleen received the Florida Bar Foundation’s 2016 Medal of Honor Award, which is the Foundation’s highest award. She has also been recognized as a Florida Super Lawyer by Super Lawyers Magazine from 2011 to 2022; been noted as one of the Best Lawyers in America, Bankruptcy and Creditor Debtor Rights/Insolvency and Reorganization Law, Commercial Litigation from 2019 to 2022; and received the William Reece Smith Jr. Public Service Award from Stetson University College of Law in 2017, to name only a few of her accolades. She has blazed a trail in her legal career as a litigator, mediator, and arbitrator and is the well-deserving 2022 recipient of the ABA Business Law Section’s Jean Allard Glass Cutter Award.

The Great Recession taught an important lesson: if economic pressures prevent your organization from buying new software, then be on the lookout for an audit of your existing software licenses. Software vendors have seized upon noncompliance issues as leverage in convincing reluctant customers to buy new products.

For the past fifteen years, we have advised clients on how to manage software audits, even litigating when necessary. Over time, we’ve seen audits become consistently more sophisticated—employing well-known consulting firms, elaborate and tricky reporting mechanisms, and vendor-friendly scripts or automated review processes.

In part one of this two-part article series, we delved into the steps of a software audit and tips for managing audits. Now, in part two, we will explore ways to improve your license agreements to limit audits or avoid them entirely.

Part Two – Contractual Strategies to Mitigate the Risk of Software Audits

By Andrew Geyer and Christina Edwards

Drafting the Scope of the License to Align with Your Anticipated Use

When preparing and negotiating your license agreements, it is critical that the license grant is comprehensive, accurate, and clear. This process must be supported by a business team with a thorough understanding of who will be using the licensed product, why the organization is procuring the licensed product, and what purpose it is intended to serve.

Intended Users

First, you need to understand who will use the licensed product. This involves an analysis at both the entity level and user level. Consider whether the contracting entity will be the only party using the license or whether the license should extend to the contracting party’s affiliates, business partners, third-party service providers, customers, and other third parties. Once you have determined which entities may need a license, you need to consider which users will need access and how the term user is defined. Vendors often limit the definition of users to named users and limit how licenses can be transferred or reassigned. Closely review any restrictions on seat counts or other licensing metrics and ensure that you are purchasing enough units to cover your anticipated population of users (see recommendations regarding excess usage below). When licenses are restricted by units or quantities, it is important to consider limitations on transferring and reassigning licenses between users. If relevant to your business concerns, negotiate the ability to freely transfer or reassign licenses; if you cannot obtain the unfettered right to do so, provide for a certain number of transfers and reassignments per license over a certain period of time (for example, provide that a license can be transferred or reassigned up to two times in any contract year). Without the ability to reassign or transfer licenses, even ordinary employment changes such as resignations and reassignments can create situations where licenses are fully paid but unable to be used.

Intended Use

Now that you know who will be using the licensed product, you need to determine how they will be using it. Be sure that you have the right to access (including remote access), use, load, and install the product, and consider whether you will need to copy, distribute, make, have made, incorporate, combine, sell, offer for sale, develop, maintain, or make derivative works of the licensed product. This analysis involves a review of both the license grant and any restrictions on usage. First, you should revise the license grant to expressly permit the anticipated usage. Second, you need to closely review any sections of the license agreement that detail restricted or prohibited uses of the licensed product. While it is always wise to include an “except as otherwise permitted herein” proviso at the outset of the restricted or prohibited use section, you should also delete any restrictions that conflict with your anticipated use of the licensed product.

Intended Products

Watch out for licenses that are limited to use with a specific product. If the license is limited to use with certain products, carefully consider how such products may change in the future, and draft the restriction as broadly as possible.

Unintended Geographic or Location-Related Restrictions

Finally, make sure the license grant is not limited geographically, especially if your intended use or users may have cross-border implications. Depending on the type of licensed product, the license agreement may also require that the licensed product is and remains installed or hosted solely by you and on specific equipment or servers. Consider your technology infrastructure, information systems architecture, and potential future plans as they relate to outsourcing or migrating to the cloud, and ensure that you are providing your organization with future flexibility for continued use of the licensed product.

Protecting Yourself from Indirect Access and Excess Usage

Once you have clearly established a comprehensive and accurate license grant, you need to protect yourself in the event that you exceed the scope of the license. This is a real and present concern that you must consider when the license grant is tied to a specific number of users or units. To mitigate this risk, add provisions to the license agreement that address indirect access, and provide the vendor with a sole and exclusive remedy for excess usage.

Indirect Access

Clearly define what does and does not constitute “access” or “use” for purposes of the license grant. The license agreements of certain vendors require you to license users who are not directly accessing or using the licensed product—so-called indirect access. Indirect access can occur when a company’s employees or business partners exchange information with the licensed product through another application or application interface without holding an individual license to the licensed product. To prevent indirect access claims, add language stating that only individuals directly accessing and using the licensed product are considered users for purposes of counting the total number of users and that any indirect access or use by any individuals, bots, sensors, chips, devices, etc., including third-party platforms or third-party software connected to the licensed product, are not chargeable.

Sole and Exclusive Remedy for Excess Usage

Without the contractual protections discussed in this section, if you exceed your license grant, you are in breach of the license agreement, which can result in damages, termination, and copyright infringement claims. To protect yourself from these risks, you should include an excess usage provision that gives the vendor a single remedy in the event of excess usage, namely, the receipt of additional fees for such usage. The provision should state that the vendor’s sole and exclusive remedy for any usage in excess of the number or nature of users provided in the license agreement is to collect additional fees from you for such use. Provide further that the license fees for such excess use should be charged at the per-unit fee set forth in your agreement or, if no such fee is stated, should be determined based on the then-existing charges. Finally, expressly state that any excess usage will not be deemed to be a breach of the license agreement and will not give rise to any other legal claim (such as a claim for copyright infringement).

Identifying and Combating an Audit Provision

Now that you’ve carefully considered the structure of the license and protected your organization from excess usage claims, you need to address any audit provisions in the license agreement—including those that may be hidden in plain sight.

Audit Provisions

When faced with an audit provision in a license agreement, your first negotiation position should be to delete the provision and replace it with self-certification language. If unsuccessful, and if it is a product-based license (e.g., a license for software that will be incorporated into your own products), then try to limit the audit provision to a financial report audit only (i.e., the audit is limited to the accuracy of any financial reports that you are obligated to provide to the vendor). If these options are thwarted by the vendor and you must work with the language of the audit provision, consider negotiating for the following limitations on the vendor’s audit right: (i) conducting the audit only in accordance with a mutually agreed audit plan, (ii) limiting the vendor’s ability to audit to no more than once per year, (iii) requiring adequate advance written notice of an audit (at least sixty days), (iv) requiring that the audit not interfere with your business operations, (v) limiting your involvement in the audit to the vendor’s reasonable requests, and (vi) limiting the vendor’s access to only the information that is necessary for purposes of the audit.

In addition to guardrails around how the audit is conducted, you should also provide protections for the results of the audit, such as (i) requiring all external auditors to sign a nondisclosure agreement that prohibits them from disclosing the results to any entity other than you and the vendor; (ii) obligating the vendor to disclose the results of the audit to you; (iii) providing for your ability to dispute the audit results; (iv) prewiring the license agreement to include a negotiated rate for additional licenses (related to the above recommendation regarding excess usage); and (v) ensuring that the information obtained during an audit, and the results of the audit, are confidential and may not be used against you in court.

Books and Records

Always look closely for a “books and records” provision that allows the vendor to inspect your books and records. These are akin to audit provisions hidden in plain sight, and, if this provision cannot be deleted, you should consider implementing similar guardrails as suggested above.

Conclusion

In conclusion, there are now three certainties in this world: death, taxes, and software audits. While these types of audits can be challenging and strain your organization and its resources, if you have aligned the scope of your license to your anticipated use, protected yourself from indirect access and excess usage, and combated the audit provision (or eliminated it entirely), you will be much better situated when the auditor inevitably comes knocking.

As we think about business development and marketing plans for the upcoming year, it is time to reconsider your strategy for attendance at and involvement in professional conferences and in-person industry events. Although attending conferences has long been a preferred method for business and professional development for people in almost every industry and practice, individual preferences and expectations have shifted substantially since 2020. Some attorneys are finding that the events they used to attend are no longer yielding the results they once did. Professionals who attended information-intensive conferences in hopes of engaging with current and prospective clients are finding that it might now be mainly their competitors and industry vendors in attendance at these same conferences. Many prospective clients are now finding information through other more flexible and less time- and energy-consuming platforms such as webinars, Zoom meetings, video recordings, articles, podcasts, and one-on-one conversations.

But conference organizers recognize that people will continue to attend events if their attendance creates benefits that cannot be achieved through some other less costly and time-intensive method. Growing our networks strategically and building professional relationships, friendships, and mentorships with people we can collaborate and work with are vital components to career development and professional fulfillment. Today there are fewer opportunities for serendipitous, professional, in-person connection and collaboration than ever before, so being intentional and proactive about investing your time and energy in in-person events could prove invaluable to your professional success.

Benefits of attending in-person conferences

Attending conferences that are specific to your practice and are of interest to your target connections can provide a multitude of benefits. Conferences provide an opportunity to reconnect with your existing contacts and meet new people. You can hear industry updates and new perspectives in your field, and CLE is often provided. And stepping away from your day-to-day work to collaborate and learn from industry experts can be inspiring and can generate renewed focus in your work. Lastly, and importantly, conferences should be fun.

Deciding which conferences to attend

Because professional goals shift, the first consideration when approaching any business development initiative is to clarify the kind of work you want more of, who your ideal client is, and who your best referral sources are. With that in mind, busy professionals should choose to attend conferences that meet both of the following criteria:

• The attendees are people who can further your career and there will be opportunities to connect
• The topics discussed are relevant to your ideal client and your ideal practice

Once you decide that you want to attend a conference, determine what the goal of your attendance is. Is it to raise your visibility, connect with a specific person or type of professional, reconnect with your colleagues? Decide on your desired outcomes, and focus your actions to help you reach that goal.

Getting the most out of your attendance

Before the conference or event

Reach out to your best contacts individually to find out if they will be attending and make a plan to reconnect one-on-one. Even if those contacts are not attending, use the opportunity to schedule time to catch up after the conference; you can run through some of the conference highlights with them.

Update your LinkedIn profile, ensuring it represents you and your practice accurately. You should be using LinkedIn to connect and stay connected with the people you meet at the conference, so be sure your headshot looks like you. These new connections should be able to tell from a brief glance at your profile exactly what you do and for whom. It’s also useful to post on LinkedIn letting your network know you will be in attendance and asking your connections to reach out if they are also planning to attend.

Request the list of registered attendees. Reach out to those you know and those you would like to connect with, letting them know you look forward to seeing them at the conference and asking to schedule one-on-one time to chat. Identify presenters you would like to meet, too. Connect with them on LinkedIn, and include a note letting them know you are looking forward to hearing their presentation.

Consider hosting drinks or a meal with those you know will be in attendance. If appropriate, encourage them to invite their friends or colleagues also present to join. People will appreciate the opportunity to connect and meet new people in a casual setting.

Help out. If you are involved with the host organization, explore the volunteer opportunities available during the conference. This is especially helpful if you don’t know many people in attendance because you will likely meet people when volunteering.

Consider speaking at the event. Being on stage is a fantastic way to boost your credibility and visibility. You typically need to submit a proposal to speak well in advance of the event, so make sure to research and calendar submission deadlines. You can read more about speaking at an event in the previous article in the Attorney Career Advancement series.

Think about what you are going to say when new connections ask you what you do. Keep it short and simple, but specific. For example, an informative but concise response might look something like this: “I am an employment litigator. Lately I have represented tech companies with employee issues arising out of remote work.”

Think about what you will say when existing contacts ask how things are going. It’s helpful to write down three recent issues or matters that represent the type of work you want more of, briefly highlighting the client and their issue, how you are helping them solve that issue, and what it ultimately meant to the client.

Order updated business cards if you don’t have them—and don’t forget to bring them with you.

During the conference or event

Attend as much as you can. Networking breakfasts, keynotes, breakouts, lunches, cocktail hours—some conferences even host physical activities like an early morning run or yoga session. You invested your time and the monetary expense of attending, so make sure you are really showing up.

Actively participate in the sessions, ask thoughtful questions, and provide useful commentary.

Introduce yourself and make introductions. Most people are very uncomfortable in these situations, so they will be relieved if you break the ice and take the lead.

Take good notes in the sessions you find valuable. Write down three key takeaways after each session.

Stay after the session to connect with the speaker to ask a question, grab their card, and let them know you enjoyed the session.

Take photos and post them on LinkedIn. Tag the speakers and colleagues in the photos, and comment on what you are learning or experiencing that you find valuable.

After the conference or event

Send connection requests on LinkedIn to everyone you met with a brief note reminding them where you met.

Send short, individual emails to the people you met or reconnected with that include a reason for them to respond (offer to make an introduction, send an article, collaborate on a presentation, etc.) Be intentional about staying in touch.

Consider writing a summary of key learnings to share with your colleagues. You may want to take this further and publish your conference highlights on your firm’s blog and on social media as well, emailing it directly to contacts who weren’t able to attend.

There is something about people physically being together that can’t be replaced with technology. Leveraging technology, forethought, and effort will ensure you get the most out of your professional in-person interactions.

Business Law Today’s winter video collection explores topics from sustainable finance to books and records demands, bringing together experts to share cutting-edge insights. The videos delve deeper into in the subjects of CLE programs at the ABA Business Law Section’s recent Hybrid Annual Meeting, talk with authors of newly released business law books, and discuss topical issues relevant to both novices and seasoned practitioners. Watch now!

Read more about the three business law video series and thirteen videos in the collection below.

Practice Area Insights

Practice Area Insights — Current Issues in Bankruptcy

Bankruptcy filings are currently at historic lows. In this wide-ranging discussion, U.S. Bankruptcy Judge Christopher M. Alston discusses potential drivers of this change, from new state laws to Subchapter V of Chapter 11 of the U.S. Bankruptcy Code, as well as other notable developments and trends in the world of bankruptcy law. The video delves into the continuing effects of the pandemic on bankruptcy and foreclosures; efforts to make bankruptcy courts more diverse; mass tort bankruptcy cases; and more.

Practice Area Insights — Delving into Books and Records Demands

In this engaging discussion, Emily V. Burton and Oderah C. Nwaeze explore books and records demands under Section 220 of the Delaware General Corporation Law, which gives stockholders the right to inspect corporate books and records for certain proper purposes. Providing insights from both the stockholder and corporate sides, they discuss everything from the specificity needed for a demand to notable Section 220 litigation and its impact on best practices for corporate record production. They also touch on the role of directors, including the unique dynamics of their inspection rights and when director emails are produced. Throughout, Burton and Nwaeze highlight tips and strategies for the reality of this area of practice.

Practice Area Insights — A Fireside Chat on Crypto Regulation with CFTC Commissioner Kristin N. Johnson

This discussion with Commodity Futures Trading Commission (CFTC) Commissioner Kristin N. Johnson features excerpts of her appearance at the ABA Business Law Section’s Hybrid Annual Meeting in September 2022. In Commissioner Johnson’s keynote fireside chat with the Section’s Private Equity and Venture Capital Committee, she offered thoughts on the legal and regulatory framework for cryptocurrency and digital assets, collaboration with the Securities and Exchange Commission, and more.

Practice Area Insights — An Introduction to M&A Careers

Interested in a career in M&A? This video will provide an understanding of not only the role of the corporate lawyer in M&A deals but the numerous elements that encompass a typical M&A transaction. The featured speakers—Samantha Horn, Matthew B. Swartz, and Daniel Rosenberg—are seasoned M&A lawyers who have a firm grasp of this unique legal practice. In this video, they identify the legal issues and key players involved in an M&A deal and offer tips for getting started in the field. With so many moving parts, the attorney must have the knowledge and skills to navigate the legal due diligence of an M&A transaction.

Practice Area Insights — Understanding and Planning for Cybersecurity Incident Response

With cyberattacks on the rise, every organization needs to be proactive in cybersecurity incident response planning. Such planning is essential to formulate policies to help resolve cyberattacks and meet legal obligations. In this video, two cybersecurity specialists, Garylene (Gage) Javier and Romaine Marshall, describe the current threat landscape, in which increasingly sophisticated cybercriminals treat ransomware attacks as a “business.” They walk viewers through best practices for incident response plans and recovering from an attack—highlighting how responsible governance requires understanding and planning for a robust response that will safeguard the organization.

CLE: A Deeper Dive

CLE: A Deeper Dive — Case Law Matters: Identifying and Dealing with Controlling Stockholders

Nathaniel M. Cartmell III, Nicholas D. Mozal, Youmna Salameh, and former Vice Chancellor of the Delaware Court of Chancery Joseph R. Slights III provide keen insight into recent decisions under Delaware law that address controlling stockholders, extending the discussion of a CLE program at the ABA Business Law Section’s 2022 Hybrid Annual Meeting (now available as on-demand CLE). Their conversation delves into the determination of whether a control group exists, considerations around trading process for price in the context of the MFW decision, key differences in negotiating with a controller stockholder, and more.

CLE: A Deeper Dive — “Green$” for Green: Structuring and Documenting Sustainable Finance Deals

Kyriakoula Hatjikiriakos, Lisa Mantello, Robert J. Lewis, and Sara Gerling explore recent market trends in the rapidly evolving world of sustainable finance loan transactions, extending the discussion of a CLE program at the ABA Business Law Section’s 2022 Hybrid Annual Meeting (now available as on-demand CLE). These experts reflect on the current landscape in the US, European, and Canadian markets, including emerging regulatory developments. Topics covered include the role of sustainability coordinators, key performance indicators used in sustainability linked loans and what within ESG they focus on, and more.

CLE: A Deeper Dive — On the Sidelines or Taking Sides: Corporations, Elections, Social Responsibility, and Long-Term Impacts on Corporate Governance

Maritza T. Adonis, Bruce F. Freed, and Jason Kaune delve into the new pressures on corporations to engage with social movements and environmental, social, and governance criteria, extending the discussion of a CLE program at the ABA Business Law Section’s 2022 Hybrid Annual Meeting (now available as on-demand CLE). “Companies today really have to address what they’re associated with through their spending,” Freed said. Their conversation touches on what those counseling corporate leadership need to consider in planning how to address these issues, the role of different stakeholders, and the education and foundational work attorneys can undertake in this space.

CLE: A Deeper Dive — Securities Law Compliance in Capital Raising by Early Stage and Other Private Businesses

Gary J. Ross and Alan J. Wilson explore the securities law framework for capital raising by early stage and other private businesses, extending the discussion of a CLE program at the ABA Business Law Section’s 2022 Hybrid Annual Meeting (now available as on-demand CLE). In a conversation ranging from the impact of the JOBS Act to tricky aspects of blue sky requirements to the evolution of SAFEs, Ross and Wilson highlight useful practice tips and share insights from their varied experience. The program their discussion draws on was part of Business Law Essentials, a curated selection of CLE programs designed to provide practice area updates, developments, and primers on key business law issues.

Book Chats

Book Chat — D&O Guide to Cyber Governance

Jody R. Westby was spurred to write D&O Guide to Cyber Governance: Fiduciary Duties in the Digital Age in a time of increasingly sophisticated cyberattacks. “Boards and CEOs are not aware of what really needs to be done,” she said. “I wanted to develop a book that would tell boards and C-suites, here’s what you do to manage cyber risks, and to do it right according to the law and to best practices.” In this conversation, Westby highlights key points where board members get tripped up, delves into the book’s practical resources, and explains why she dedicated the book to E. Norman Veasey, former Chief Justice of the Delaware Supreme Court and former Chair of the Business Law Section.

Book Chat — Countering the Financing of Terrorism: Law and Policy

As terrorist groups and tactics evolve, government authorities and the private sector have focused on preventing financial and commercial systems from being leveraged and abused to fund terrorist activities. Leading experts came together to create Countering the Financing of Terrorism: Law and Policy after they realized there was a “gap in the literature” on this subject, says editor John M. Geiringer. The result is a comprehensive overview of the key legal tools and strategies used to combat this dynamic challenge. In this conversation, Geiringer discusses the extent of the terror financing problem; the role of financial institutions and banking lawyers in countering it; and the book’s insights into terror financing typologies.

Book Chat — The Fraudulent Transfer of Wealth: Unwound and Explained

“You need to understand fraudulent transfer law because of its broad scope. It might be an old, ancient law, but it is more than capable of handling today’s modern, sophisticated transactions,” says David J. Slenn. In The Fraudulent Transfer of Wealth: Unwound and Explained, Slenn outlines steps that planners can take to minimize a transaction’s exposure to avoidance and proactive measures that creditors can take to reduce the chance of losing assets. Here, Slenn discusses the risks of misunderstanding fraudulent transfer law, the book’s step-by-step guide to key issues, and top lessons learned.

Book Chat — The Practical Guide to Software Licensing and Cloud Computing, Seventh Edition

With intellectual property rights assuming greater importance in today’s world and licensing issues and developments constantly evolving, The Practical Guide to Software Licensing and Cloud Computing, 7^th Edition is an essential resource. In this conversation, author H. Ward Classen discusses the new edition’s expanded discussion of cloud computing, how he tracks new developments, and the evolution of the book over nearly twenty years. As the practice of software law has expanded, “It’s blossomed,” Classen said. “It’s much more comprehensive, and it seems to resonate with practitioners endlessly.”

ABA Model Rule 4.2 is seeing an apparent renewed emphasis in 2022. Rule 4.2—commonly known as the “no contact rule”—provides: “In representing a client, a lawyer shall not communicate about the subject of the representation with a person the lawyer knows to be represented by another lawyer in the matter, unless the lawyer has the consent of the other lawyer or is authorized to do so by law or a court order.” The stated purpose behind this Rule is “protecting a person who has chosen to be represented by a lawyer in a matter against possible overreaching by other lawyers who are participating in the matter, interference by those lawyers with the client-lawyer relationship and the uncounselled disclosure of information relating to the representation.” ABA Model Rule 4.2, cmt. 1.

This renewed emphasis on Rule 4.2 is evidenced by the ABA Standing Committee on Ethics and Professional Responsibility issuing two consecutive ABA Formal Ethics Opinions in quick succession addressing different aspects of the lawyer’s ethical obligations under the “no contact rule.”

Application of the “No Contact Rule” to the Self-Representing Lawyer

On September 28, 2022, the Committee issued ABA Formal Opinion 502 addressing “Communication with a Represented Person by a Pro Se Lawyer.” Early on, the Opinion recognized that Rule 4.2 does not prohibit parties from communicating directly with one another. See ABA Formal Op. 502, at 2-3, citing ABA Model Rule 4.2, cmt. 4. In fact, in a previous ABA Formal Ethics Opinion, the Committee opined that it is not a violation of Rule 4.2 to help coach a client about communications that the client can have with a represented opposing party. See ABA Formal Op. 11-461 (“Advising Clients Regarding Direct Contacts with Represented Persons”) (Aug. 4, 2011).

However, in Formal Opinion 502, a majority of the Committee concluded—based on both the text of Rule 4.2 itself and the purposes behind the Rule—that a lawyer proceeding in a matter pro se is “representing a client,” namely himself or herself, and therefore, the “no contact rule” applies. Specifically, the majority stated that:

When a lawyer is self-representing, i.e., pro se, that lawyer may wish to communicate directly with another represented person about the subject of the representation and may believe that, because they are not representing another in the matter, the prohibition of Model Rule 4.2 does not apply. In fact, both the language of the Rule and its established purposes support the conclusion that the Rule applies to a pro se lawyer because pro se individuals represent themselves and lawyers are no exception to this principle.

ABA Formal Op. 502, at 1.

In reaching this conclusion, the majority admitted that “when a lawyer is acting pro se, application of Model Rule 4.2 is less straightforward” and that in applying Rule 4.2 “to pro se lawyers, the scope of the rule is less clear.” ABA Formal Op. 502, at 2 and 3. Despite reliance on the principles behind Rule 4.2, the majority also acknowledged: “This opinion does not address the related question of applicability of Rule 4.2 when a lawyer is represented by another lawyer and the represented lawyer wishes to communicate with another represented person about the matter.” Id., at 3, n. 10. The majority even recognized that its stance about the language “in representing a client” applying to the self-representing lawyer may create an ambiguity when applied to a pro se lawyer and that its stance is contrary to that of the Restatement of the Law Governing Lawyers. Id., at 5 and 5, n. 25.

In a somewhat unusual move, not only was there dissent within the Committee on this issue, but the Committee published the dissenting opinion. From the outset, the dissenting minority disagreed with the notion that the language of Rule 4.2 itself supports the majority’s conclusion: “While the purpose of the rule would clearly be served by extending it to self-represented lawyers, its language clearly prohibits such application.” ABA Formal Op. 502, dissenting op. at 6–7 (italics in original). The dissent further explained:

But it is, I hope, unusual for a committee to nullify plain language through interpretation, especially when the committee has jurisdiction to propose rule amendments.

***

Applying Rule 4.2 to pro se lawyers is supported by compelling policy arguments. It is not the result I object to, it is the mode of rule construction that I cannot endorse. Self-representation is simply not “representing a client,” nor will an average or even sophisticated reader of these words equate the two situations. Rather, this is an “ingenious bit of legal fiction.” Further, this approach to construing the rule’s language renders the phrase “in representing a client” surplusage, contrary to a basic canon of construction.

It is also simply wrong to perpetuate language that was clear but has been made misleading by opinions effectively reading that language out of the rule. When an attorney consults the rule, it is highly unlikely that the phrase “in representing a client” will be considered to include self-representation. If the attorney goes further and consults Comment [4], the Comment will assure the attorney that, “Parties to a matter may communicate directly with each other.” Given this apparent clarity, what will tip off the attorney that further research is required? The lesson here must be that nothing is clear. Clear text cannot be relied upon but may only be understood by reading ethics opinions and discipline decisions. Does the text mean what it actually says, as it does in Connecticut, Kansas, and Texas? Or, does it mean what we wish it said, as several other states have declared?

ABA Formal Op. 502, dissenting op. at 7–8 (internal citations omitted) (italics in original).

Indeed, if Rule 4.2 is to be applied to a lawyer representing themself, that applicability is certainly less than clear from the language of the Rule or its Commentary. As the dissent suggests, if this is how the Rule is to be applied, then perhaps the Rule itself should be revised through the Rule amendment process to provide the clarity that the majority appears to see but that others do not. Otherwise, as it stands, ABA Formal Opinion 502 appears to set an ethical trap for the unsuspecting pro se lawyer who does not think they are “representing a client” when representing themself.

Rule 4.2 and the “Reply All” Email

On November 2, 2022, the Committee subsequently issued ABA Formal Opinion 503 addressing the issue of “‘Reply All’ in Electronic Communications.” Formal Opinion 503 addresses the ethical propriety of an opposing counsel recipient (“receiving counsel”) sending a “reply all” email when the originating attorney (“sending counsel”) copies their client on the original email. The Opinion addresses the extent to which the sending counsel, by copying their client, has impliedly authorized the recipient counsel to respond to all recipients of the original email (including the sending counsel’s client).

While acknowledging that a number of jurisdictions take the position that the sending counsel has not impliedly consented to a “reply all” response under these circumstances, the Committee concluded: “given the nature of the lawyer-initiated group electronic communication, a sending lawyer impliedly consents to receiving counsel’s ‘reply all’ response that includes the sending lawyer’s client, subject to certain exceptions [discussed therein].” ABA Formal Op. 503, at 2. The Committee supported its conclusion by noting that consent under Rule 4.2 need not be express but may be implied. The Committee also placed responsibility on the sending counsel for initially including their client on the communication, noting that such placement of responsibility on the sending counsel was fairer, especially if the list of recipients in the group email is large and especially where the sending counsel can avoid this issue altogether (and likewise avoid the possibility of the client also sending a “reply all” which may disclose “sensitive or compromising information”) by forwarding the client the original email in a separate email solely between the client and the lawyer. Id., at 3–4. In fact, the Committee itself noted that forwarding the email to the client—as opposed to “bcc’ing” a client—may be safer “because in certain email systems, the client’s reply all to that email would still reach the receiving counsel.” Id., at 4, n. 14.

Formal Opinion 503’s focus on the sending counsel’s responsibility, as opposed to that of the receiving counsel, is consistent with the 2002 amendment to ABA Model Rule 4.4(b) with respect to the duties of the unintended recipient of information relating to the representation of a client. Prior to 2002, the unintended recipient’s ethical obligations were to refrain from reading the document, notify the sender, and abide by the sender’s instructions. The 2022 amendment of Rule 4.4 limited the unintended recipient’s ethical obligation to only that of notifying the sender. See ABA Model Rule 4.4(b); ABA Formal Op. 05-437 (“Inadvertent Disclosure of Confidential Information: Withdraw of Formal Op. 92-368 (Nov. 10, 1992)”) (Oct. 1, 2005). As such, greater responsibility is placed on the sender to take care not to misdirect the communications in the first place.

As to the exceptions to this implied authorization to “reply all,” Formal Opinion 503 noted that an express oral or prominent written instruction from the sending counsel to receiving counsel that receiving counsel is not to send a “reply all” email that includes the client will eliminate any suggestion that the sending counsel has impliedly authorized such direct communication with the client. See ABA Formal Op. 503, at 4. The Opinion also noted that this implicit authorization for the receiving counsel to “reply all” should be limited to email and other group electronic communications. See id., at 4. In other words, the same implicit authority is not present if the sending counsel carbon copies their client on a traditional paper letter.

And again, some jurisdictions disagree with the position taken by ABA Formal Op. 503 with respect to the sending counsel impliedly authorizing the receiving counsel’s direct communication with the carbon copied client via a “reply all” response email. For example, Kentucky Bar Association Ethics Opinion E-442 (Nov. 17, 2017) took the opposite approach: “A lawyer who, without consent, takes advantage of ‘reply all’ to correspond directly with a represented party violates Rule 4.2. Further, showing a ‘cc’ to the client on an email, without more, cannot reasonably be regarded as consent to communicate directly with the client.” See KBA E-442, at 1–2. The KBA Opinion also cautioned that the sending counsel, without the client’s express or implied consent, may be violating Rule 1.6’s duty of confidentiality when copying the client because doing so provides the following information to the receiving counsel: “1) the identity of the client; 2) the client received the email including attachments, and 3) in the case of a corporate client, the individuals the lawyer believes are connected to the matters and the corporate client’s decision makers.” Id., at 2.

Conclusion

Perhaps the lesson behind both of these ABA Formal Ethics Opinions addressing Rule 4.2 is this: it has always been true that a lawyer should pause whenever wanting to communicate directly with a person represented by counsel. But there are grey areas in the application of this Rule, and different jurisdictions interpret the Rule differently. Some jurisdictions would follow ABA Formal Opinion 502 and apply Rule 4.2 to self-representing lawyers, while other jurisdictions would not. Some jurisdictions would follow ABA Formal Opinion 503 and maintain that, generally speaking, a sending counsel who copies their client on an email has impliedly authorized the receiving counsel to send a “reply all” response email, while other jurisdictions would not. As such, when a lawyer finds themself in these grey areas, it is important to determine how the applicable jurisdiction applies Rule 4.2. Finally, if all else fails, the lawyer can always attempt to secure the explicit consent of opposing counsel to allow for direct communication with opposing counsel’s client, with such consent preferably confirmed in writing to eliminate any confusion.

On October 26, 2022, the U.S. Securities and Exchange Commission (the “SEC” or the “Commission”) adopted final rules (the “Final Rules”)^[1] implementing the clawback provisions of the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (the “Dodd-Frank Act”). In particular, the Final Rules require:

• national securities exchanges (“exchanges”) and national securities associations to establish listing standards that require listed companies to develop and implement policies providing for the recovery of “erroneously awarded” incentive-based compensation received by current or former executive officers where such compensation is based on erroneously reported financial information and an accounting restatement is required (a “clawback policy”); and
• listed companies to provide disclosures about their clawback policies and how they are being implemented.

Historical Background and Commissioners’ Views

Section 954 of the Dodd-Frank Act added Section 10D to the Securities Exchange Act of 1934, as amended (the “Exchange Act”). Section 10D directed the SEC to adopt a rule requiring companies to develop, implement, and disclose clawback policies designed to recover “erroneously awarded” incentive-based compensation from current or former executive officers during the three-year period preceding the date on which the company was required to prepare an accounting restatement due to the company’s material noncompliance with any financial reporting requirement under the securities laws.

The SEC first proposed clawback rules on July 1, 2015, and received significant public comment. After the proposal languished for years, and in light of regulatory and market developments since 2015, the Commission reopened the comment period for these rules on October 14, 2021. On June 8, 2022, the Commission released a memo prepared by the staff in its Division of Economic and Risk Analysis that contained additional analyses and data relevant to the proposed clawback rules and reopened the comment period again. The SEC adopted the Final Rules on October 26, 2022, in a 3-2 vote.

SEC Chair Gary Gensler and Commissioners Caroline Crenshaw and Jaime Lizárraga voted in favor of the Final Rules. Their statements indicated that they supported the Final Rules largely because they believe the Final Rules will benefit investors and promote accountability, including by, among other things, “strengthen[ing] the transparency and quality of corporate financial statements, investor confidence in those statements, and the accountability of corporate executives to investors.”^[2]

Commissioners Hester Peirce and Mark Uyeda dissented from the adoption of the Final Rules. Their statements included concerns that the Final Rules are overly broad by, among other things, applying to so-called “little r” restatements (rather than only “Big R” restatements),^[3] covering too broad a swath of company executives (rather than only individuals involved in the events leading to the restatement), applying to all listed companies (rather than excluding or providing exemptions for emerging growth companies [“EGCs”], smaller reporting companies [“SRCs”], and foreign private issuers [“FPIs”]), and defining “incentive-based compensation” too broadly (rather than limiting it to compensation based on accounting-based metrics). Commissioner Uyeda also expressed his concern that the Final Rules may misalign the interests of shareholders and corporate executives, as companies may restructure executive compensation arrangements to decrease incentive pay vulnerable under clawback policies in favor of increasing discretionary bonuses.^[4]

Important Things to Know

The Final Rules will require companies to adopt clawback policies and provide related disclosures. Below are questions highlighting issues of note for companies, directors, and advisors about the Final Rules, which are separated into sections discussing the Final Rules generally, clawback policies, and disclosure requirements.

General Information

1. Which companies are affected?

All listed issuers—including EGCs, SRCs, FPIs, Canadian companies reporting under the multijurisdictional disclosure system, and controlled companies—will be subject to the Final Rules.

2. When will this new regime go into effect?

The Final Rules, which, as noted, are structured to direct the exchanges to adopt new listing standards, will become effective on January 27, 2023. Exchanges will need to file proposed listing standards no later than February 26, 2023, and these listing standards must then be effective no later November 28, 2023. A listed company must adopt a clawback policy no later than sixty days following the date on which the applicable listing standard becomes effective and must begin to comply with the Final Rules’ disclosure requirements in proxy and information statements and annual reports filed on or after the effective date of the applicable listing standard.

3. May companies indemnify or otherwise assist their executive officers in mitigating the impact of the clawback policy?

No. Companies are prohibited from insuring or indemnifying their executive officers with respect to recoverable amounts, including from paying or reimbursing the executive officer for premiums on an insurance policy covering recoverable amounts.

Clawback Policies

4. What must be included in a company’s clawback policy?

A listed company will be required to adopt and comply with a written policy providing that the company:

will recover reasonably promptly the amount of erroneously awarded incentive-based compensation in the event that the issuer is required to prepare an accounting restatement due to the material noncompliance of the issuer with any financial reporting requirement under the securities laws, including any required accounting restatement to correct an error in previously issued financial statements that is material to the previously issued financial statements, or that would result in a material misstatement if the error were corrected in the current period or left uncorrected in the current period. (Final Rules; emphasis added to highlight defined terms.)

5. Which employees need to be covered by the clawback policy?

A company’s current and former executive officers will be subject to the clawback policy.

“Executive officers” in the new Rule 10D-1(d) are the same as officers as defined by Rule 16a-1(f) for Section 16 purposes and therefore broader than the definition of “executive officer” provided in Rule 3b-7 under the Exchange Act. So, for domestic issuers, the group covered will include any executives subject to Form 4 reporting. The group includes a company’s president; principal financial officer; principal accounting officer (or if there is no such accounting officer, the controller); any vice president of the company in charge of a principal business unit, division, or function (such as sales administration or finance); any other officer who performs a policy-making function; or any other person who performs similar policy-making functions for the company.

Importantly, the definition of executive officer is broader than the definition of “named executive officer” (NEO) and the group of executives subject to clawback under the Sarbanes-Oxley Act of 2002. The company’s principal accounting officer (or controller if the listed company does not have a principal accounting officer) is covered by the Final Rules even if the company does not otherwise consider that person to be among its executive officers.

Note that the definition of executive officer is not limited to executive officers who may be “at fault” for, or have knowledge of, errors that led to a restatement or those who are directly responsible for the preparation of the financial statements. Recovery of compensation received while an individual was serving in a non-executive capacity prior to becoming an executive officer will not be required, but for an employee who served as an executive officer and then returned to employee status, recovery for compensation following service as an executive officer would be required.

The Final Rules do not apply to non-employee directors.

6. What is incentive-based compensation?

The Final Rules define incentive-based compensation broadly as “any compensation that is granted, earned or vested based wholly or in part upon the attainment of any financial reporting measure” and includes cash awards, bonuses from a “pool” the size of which is determined based on financial reporting measures, equity awards, and proceeds from shares acquired pursuant to such equity awards. Notably, however, incentive-based compensation excludes equity awards that were not granted based on the attainment of any financial reporting measure and vest solely based on continued service.^[5]

Note that compensation contracts or arrangements that existed at or prior to the Final Rules’ effective date must be subject to clawback policies if any incentive-based compensation is received on or after the effective date of the listing standards (e.g., a performance-based equity award granted in 2021 with a performance period that ends in 2025). In other words, currently existing compensation contracts are subject to potential clawback if any applicable compensation will be received on or after the effective date of the exchanges’ standards.

7. What are financial reporting measures?

Financial reporting measures are:

• measures that are determined in accordance with the accounting principles used in the company’s financial statements, whether presented in or outside of the company’s financial statements,
• any measures derived wholly or in part from such measures (including non-GAAP measures and other measures, metrics, and ratios that are not non-GAAP measures, e.g., same-store sales), and
• other performance measures—including stock price, Total Shareholder Return (“TSR”), and relative TSR—that are affected by accounting-related information.^[6]

8. When is incentive-based compensation deemed to have been erroneously awarded?

Incentive-based compensation will be deemed erroneously awarded and subject to a company’s clawback policy if the compensation was tied to financial performance measures and the issuer is required to restate or correct the financial statements upon which the payouts were based (i.e., the payout was a higher amount than it would have been had the corrected financial statements been the ones initially prepared).^[7]

This means that clawback policies must cover both “Big R” and “little r” restatements. The Final Rules do not provide a separate definition for either “materiality” or “accounting restatements”; instead, the Final Rules look to existing accounting standards and guidance to define such terms in order to help ensure standards are consistently applied across companies and over time.^[8]

9. What time period must the clawback policy cover?

The clawback policy must provide for a three-year look-back period, which comprises the three completed fiscal years (rather than the preceding thirty-six months) immediately preceding the date when the company is required, or should have reasonably concluded that it was required, to prepare an accounting restatement for a given reporting period.^[9]

This means that if a company with a December 31 fiscal year-end determines in November 2024 that a restatement is required going back to 2021 and files restated financial statements in January 2025, the clawback policy would apply to incentive-based compensation received in 2023, 2022, and 2021 (see next section for the definition of “received”). If a company changed its fiscal year-end during the three-year look-back period, it must recover incentive-based compensation received during the transition period occurring during, or immediately following, that three-year period in addition to during the three-year look-back period (i.e., a total of four periods).

Notwithstanding the three-year lookback, the Final Rules apply only to (i) incentive-based compensation received after a person began service as an executive officer and served as an executive officer at any time during the performance period for that incentive-based compensation, and (ii) incentive-based compensation received while the company’s securities are listed.

10. When is incentive-based compensation “received” for purposes of the three-year lookback?

Incentive-based compensation is deemed to be “received” in the fiscal year during which the financial reporting measure included in the incentive-based compensation award is attained or satisfied, regardless of whether the payment or grant occurs after the end of that period or if the executive officer has established only a contingent right to payment at that time. The Adopting Release notes that ministerial acts or other conditions necessary to effect issuance or payment (e.g., calculating the amount earned or obtaining the board of directors’ approval of payment) do not extend the date of receipt.

11. What portion of erroneously awarded compensation must be recovered?

“[T]he amount of incentive-based compensation received that exceeds the amount of incentive-based compensation that otherwise would have been received had it been determined based on the restated amounts”^[10] is subject to recovery.

The Adopting Release provides the following, non-comprehensive, guidance for calculating the amount of erroneously awarded compensation:

• For equity awards, if the equity award or shares are still held at the time of recovery, the number of such securities received in excess of the number that should have been received based on the accounting restatement (or the value of that excess number), provided that if options or SARs have been exercised, but the underlying shares have not been sold, the erroneously awarded compensation is the number of shares underlying the excess options or SARs (or the value thereof).
  • The SEC did not clarify if by “the value thereof” it intends to capture the value at the time of grant or at the time of clawback.
• For cash awards paid from bonus pools, the erroneously awarded compensation is the pro rata portion of any deficiency that results from the reduction in the aggregate bonus pool based on applying the restated financial reporting measure.
• For incentive-based compensation attained only partially based on the achievement of financial reporting measures, recalculate only the portion of such compensation based on or derived from the financial reporting measure that was restated.
• If the erroneously awarded compensation is not able to be calculated from information in an accounting restatement (e.g., TSR, relative TSR,^[11] or stock price measures), a reasonable estimate of the effect of the accounting restatement on such measure should be used (with documentation of such determination provided to the relevant exchange).

All amounts of erroneously awarded compensation would be calculated on a pre-tax basis (i.e., without respect to any tax liabilities that may have been incurred or paid by the executive).

12. How and when must recovery occur?

As noted above, the Final Rules mandate recovery on a no-fault basis, without regard to any “scienter” on the part of relevant executive officers and with very limited discretion by the board of directors to forgo recovery. The Final Rules provide that recovery need not be pursued if the compensation committee (or in the absence of a compensation committee, a majority of the board’s independent directors) determines recovery is impracticable in light of one of the following three conditions:

• the direct cost paid to a third party to assist in enforcing recovery would exceed the amount of recovery, provided that the company has first made a reasonable attempt to recover such erroneously awarded compensation, has documented such reasonable attempt(s) to recover, and has provided that documentation to its listing exchange;
• the recovery would violate a home country law that was adopted prior to November 28, 2022, provided that the company has obtained an opinion of home country counsel acceptable to the company’s listing exchange that recovery would result in such a violation and the company has provided such opinion to its listing exchange; or
• the recovery would likely cause an otherwise tax-qualified retirement plan, under which benefits are broadly available to employees of the registrant, to fail to meet the requirements of 26 U.S.C. 401(a)(13) or 26 U.S.C. 411(a) and regulations thereunder.

Absent a finding of impracticability, companies are permitted to exercise discretion in what specific means to use to accomplish recovery, but generally must pursue recovery and should endeavor to prevent executive officers from retaining the full amount of compensation to which they were not entitled under the company’s restated financials. Partial recovery can only be sufficient with a showing of impracticability, as described above.

Recovery must occur “reasonably promptly.” The Final Rules do not define “reasonably promptly,” but the Adopting Release notes that companies may consider costs related to recovery efforts when determining what is “reasonable.” For example, it may be reasonable, depending on the facts and circumstances, to establish a deferred payment plan allowing an executive officer to repay erroneously awarded compensation as soon as possible without unreasonable economic hardship or to establish compensation practices that account for the possibility of the need for future recovery (e.g., holdbacks).

There are no de minimis exceptions for small amounts of recovery (except to the extent it may implicate the impracticability analysis described above).

13. What happens if a company does not adopt a clawback policy?

A company will be subject to delisting if it does not adopt and comply with a clawback policy that meets the requirements of its exchange’s listing standards, and no exchange will be able to list the company’s shares until it has adopted a compliant policy.

Disclosure Requirements

14. Where do clawback policies and related information need to be disclosed?

Disclosures will need to be provided in proxy and information statements, as well as in companies’ annual reports.

15. What disclosures does a company need to make regarding its clawback policy?

The Final Rules require companies to provide a number of new disclosures related to their clawback policies. A listed company will be required to:

• file its clawback policy as an exhibit to its annual report; and
• include check boxes on the cover of its Form 10-K, 20-F, or 40-F, as applicable, disclosing whether the financial statements included in the report reflect the correction of an error to previously issued financial statements and whether any such error corrections are restatements that required a compensation recovery analysis pursuant to the company’s clawback policy.

A listed company that has prepared an accounting restatement that triggered its clawback policy, along with any company that has an outstanding balance of excess incentive-based compensation relating to a prior restatement, will also be required to provide the following disclosures in its proxy or information statement or annual report containing executive compensation disclosures pursuant to Item 402 of Regulation S-K:

• the date the accounting restatement was required to be prepared, the aggregate amount of any related erroneously awarded compensation, and a description of how the recoverable amount was calculated or why the amount has not yet been determined;
• the aggregate amount of the erroneously awarded compensation outstanding at the end of the last fiscal year;
• if the erroneously awarded incentive compensation was determined based on stock price or TSR metrics, the estimates used to determine the amount of erroneously awarded compensation attributable to an accounting restatement and an explanation of the methodology used for those estimates;
• the amount of recovery forgone and a description of the reasons recovery was not pursued if recovery would be impracticable; and
• for each covered current or former executive, the amount of any erroneously awarded compensation that is owed and has been outstanding for 180 days or longer after the company determined the amount owed.

Disclosure would also be required if an accounting restatement occurred and the registrant concluded recovery of erroneously awarded compensation was not required under the clawback policy.

Next Steps

16. What steps should be taken now to ensure compliance with the Final Rules?

Companies should work with counsel to update existing clawback policies or adopt new clawback policies to comply with the Final Rules. Companies should also review existing contracts and forms (e.g., employment agreements, separation agreements, bonus plans, and equity award agreements) and consider updates addressing the company’s clawback policy. Members of management should expect to engage with both their nominating and governance committees as well as compensation committees on efforts to comply with the Final Rules. Members of these committees should make appropriate inquiries of management to understand the timing and nature of any changes that might be required in a company’s clawback policies.

A version of this publication originally appeared as a Cravath, Swaine & Moore LLP client memo.

1. The text of the final rule and the Commission’s related adopting release (the “Adopting Release”) can be found on the SEC’s website. ↑

2. See Chair Gary Gensler, “Statement on Final Rules Regarding Clawbacks of Erroneously Awarded Compensation”; Commissioner Caroline A. Crenshaw, “Statement on Listing Standards for Recovery of Erroneously Awarded Compensation”; and Commissioner Jaime Lizárraga, “Statement on Listing Standards for Recovery of Erroneously Awarded Compensation.” ↑

3. “Big R” restatements are restatements where historical financial statements are restated to correct errors material to previously issued financial statements. “Little r” restatements are restatements that correct errors that are not material to previously issued financial statements, but would result in a material misstatement if (a) the errors were left uncorrected in the current report or (b) the error correction was recognized in the current period. ↑

4. See Commissioner Hester M. Peirce, “Erroneous Clawbacking: Statement at Open Meeting to Consider Listing Standards for Recovery of Erroneously Awarded Compensation,” and Commissioner Mark T. Uyeda, “Statement on the Final Rule Related to Listing Standards for Recovery of Erroneously Awarded Compensation.” ↑

5. The Adopting Release provides non-exhaustive examples of compensation that is not incentive-based compensation, including salaries; bonuses paid solely at the discretion of the compensation committee or board that are not paid from a bonus pool determined by satisfying a financial reporting measure performance goal; bonuses paid solely upon satisfying one or more subjective standards (e.g., demonstrated leadership) and/or completion of a specified employment period; non-equity incentive plan awards earned solely upon satisfying one or more strategic measures (e.g., consummating a merger or divestiture) or operational measures (e.g., opening a specified number of stores, completion of a project, increase in market share); and equity awards for which the grant is not contingent upon achieving any financial reporting measure performance goal and vesting is contingent solely upon completion of a specified employment period and/or attaining one or more nonfinancial reporting measures. ↑

6. The Adopting Release provides a non-exhaustive list of financial reporting measures, including revenue; net income; operating income; profitability of one or more reportable segments; financial ratios; net assets or net asset value per share; earnings before interest, taxes, depreciation and amortization; liquidity measures; return measures; earnings measures; sales per square foot or same-store sales, where sales are subject to an accounting restatement; revenue per user, or average revenue per user, where revenue is subject to an accounting restatement; cost per employee, where cost is subject to an accounting restatement; any of such financial reporting measures relative to a peer group where the company’s financial reporting measure is subject to an accounting restatement; and tax basis income. ↑

7. When errors are both immaterial to previously issued financial statements and immaterial to the current period, they are often corrected in the current period in so-called “out-of-period” adjustments. The Adopting Release explains that an out-of-period adjustment should not trigger a compensation recovery analysis under the Final Rules, because it is not an “accounting restatement.” ↑

8. The Adopting Release does, however, provide a list of changes to a company’s financial statements that do not represent error corrections, and therefore do not trigger application of its clawback policy, including retrospective application of a change in accounting principle; retrospective revision to reportable segment information due to a change in the structure of a company’s internal organization; retrospective reclassification due to a discontinued operation; retrospective application of a change in reporting entity, such as from a reorganization of entities under common control; retrospective adjustment to provisional amounts in connection with a prior business combination (for international financial reporting standards only); and retrospective revision for stock splits, reverse stock splits, stock dividends, or other changes in capital structure. ↑

9. Accounting restatements are required to be prepared on the earlier of (1) the date the board of directors, a committee of the board of directors, or the officer(s) of the company authorized to take such action concludes, or reasonably should have concluded, that the company is required to prepare an accounting restatement due to the material noncompliance of the company with any financial reporting requirement under the securities laws, or (2) the date a court, regulator, or other legally authorized body directs the company to prepare an accounting restatement. ↑

10. Rule 10D-1(b)(1)(iii). ↑

11. Note that with respect to relative TSR, only an accounting restatement by the issuer, not accounting restatements by other issuers in the peer group, would result in application of the Final Rule and potential recovery. ↑