In October, the
They begin by establishing their bona fides when it comes to enforcement of insider trading violations and inadequate internal accounting controls:
"Make no mistake: Insider trading by public companies engaged in share repurchases is unacceptable, and we support all appropriate actions—including charges under Rule 10b-5—when companies use material nonpublic information to take advantage of their shareholders. We also support all appropriate actions under Section 13(b)(2)(B) when companies have inadequate internal accounting controls that threaten to erode confidence in their financial statements. In short, we have supported, and will continue to support, vigorous enforcement of the antifraud, disclosure, and other securities laws against corporate wrongdoers whenever appropriate."
But the charges must be appropriate: "the tools we use must be fit for the task. And in this case, we believe Section 13(b)(2)(B) is not the appropriate tool."
Under Rule 10b-5, the two commissioners argue, companies may not take advantage of material nonpublic information when they repurchase their shares, but for an insider trading claim, there must be a finding of scienter. A company frequently has MNPI, they maintain, but is permitted, "through Rule 10b5-1…to trade its shares while possessing material nonpublic information if the trades are made pursuant to a written plan to which the company has committed before it becomes aware of the information."
On the surface at least, they contend, the
"would seem to be an open-and-shut case of insider trading. However, there are additional complications. First, the repurchases were executed pursuant to a Rule 10b5-1 plan; and at the time the plan was approved on
But the
The two commissioners then go on to make their point by parsing the language of the statute and examining its legislative history. In their view, the interpretation of the "internal controls" provision has been expanded by some to include every kind of "worthy practices, policies, and procedures for good corporate governance and legal or ethical compliance." The provisions are tempting to apply in this way because there is no scienter requirement or specific standards to evaluate sufficiency. But Section 13(b)(2)(B) does not, in their view, apply to generic "internal controls" but rather to "internal accounting controls." That section requires companies to "devise and maintain a system of internal accounting controls sufficient to provide reasonable assurances" regarding the execution and recording of transactions to permit preparation of financial statements in conformity with GAAP and the access to and recorded accountability for assets—all of which they believe makes clear "that accounting is its central focus." Likewise, Section 13(b)(2)(A), requires companies to "make and keep 'books, records, and accounts' that 'accurately and fairly reflect the transactions and dispositions of the assets' of the issuer." Read in context, the required controls "seem primarily to concern the accounting for a public company's assets and transactions to ensure that its financial statements are prepared in accordance with generally accepted accounting principles, thereby ensuring that financial statements are accurate and reliable when disclosed to investors."
Although, read in isolation, some language in the statute—such as the requirement that access to assets or recording of transactions be consistent with "management's general or specific authorization"—could be interpreted more broadly, "such a reading would go well beyond the realm of 'accounting controls' to which
In addition, they maintain, Section 13(b)(2)(B) was derived from the authoritative accounting literature, which distinguished between the more broadly conceived "administrative controls"—which included "procedures and records 'concerned with the decision processes leading to management's authorization of transactions'"—and "accounting controls"—which were "limited to the plan of organization and the procedures and records 'that are concerned with the safeguarding of assets and the reliability of financial records,'" and not applicable to "any procedures or records entering into management's decision-making processes...." The commissioners point out that, "[n]otably absent from discussion of these standards is any reference to ethics or legal compliance policies, or to any of the other myriad corporate policies and practices that are very important in every corporation, but that do not implicate accounting."
To be sure, the dissenting commissioners agreed that "
Originally Published by Cooley,
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