Tuesday, July 10, 2018

Coalition of state treasurers opposes forced arbitration in shareholder agreements

By Amanda Maine, J.D.

A bipartisan coalition of state treasurers sent a joint letter to SEC Chairman Jay Clayton expressing opposition to any move reversing the SEC’s longstanding policy of prohibiting forced arbitration clauses in initial public offering filings that would block shareholder lawsuits. While Clayton has stated that the issue is not a current Commission priority, the state treasurers’ letter echoes concerns by several organizations and legislators that allowing forced arbitration would be detrimental to shareholders.

Treasurers chime in. The letter, which was signed by the state treasurers of California, Illinois, Iowa, Oregon, Pennsylvania, and Rhode Island, noted that as chief financial officers of their respective states, one responsibility often involves the investment of both public taxpayer funds and some private savings in the form of college tuition savings accounts, investment accounts for disabled individuals, and pension funds. As investors, the state treasurers would like to maintain the ability to bring private shareholder lawsuits to redress violations of securities laws, which would be threatened by forced arbitration.

In the letter, the state treasurers explain that individual police and firefighter pensioners, teachers, and municipal workers do not have the financial size or scale to contest forced arbitration clauses or class action waivers in company charters and corporate bylaws. “The choice is either to forego any reasonable hope of accountability in the wake of securities fraud, or to forego the investment entirely,” according to the state treasurers.

The letter also warns that forced arbitration, which typically prohibits the disclosure of any information about the proceedings, prevents cases of corporate misconduct and financial fraud from being made public in courts, thus keeping the fraud a secret. By banning shareholder class actions, investors would be prohibited from banding together to seek redress from widespread harms against investors, requiring regulators who are already overstretched to step in, the state treasurers advise.

Forced arbitration and bans on shareholder class action lawsuits means immunity for many financial actors, including the very worst, the letter cautions. Without the ability to bring targeted, private enforcement of state and federal securities laws, investor confidence in markets can suffer, leading to diminished public participation in the market and ultimately hurting both investors and the companies in which they invest, according to the letter.

Growing opposition. The state treasurers’ letter joins a chorus of others expressing concern about a possible change to the SEC’s policy on forced arbitration following the publication of a January 2018 article that appeared in Bloomberg reporting that the Commission is laying the groundwork for a possible policy shift. The story prompted several investor and consumer advocacy organizations to write to the Commission, urging it to maintain its position against forced arbitration.

The article also caught the attention of the Democrats sitting on the House Financial Services Committee, who wrote to Chairman Clayton seeking assurances that the Commission would reaffirm its position that forced arbitration provisions in public companies’ corporate governance documents harm the public interest and violate the anti-waiver provisions of the federal securities laws. Clayton’s response indicated that he has not yet formed a definite view on the matter and that he does not view it as a priority. Clayton also stated that any decision on whether to declare effective an IPO filing with a mandatory arbitration clause would be made by the Commission itself and not the Division of Corporation Finance under delegated authority. CorpFin Director William Hinman reiterated Clayton’s stance during congressional testimony in April.

Commissioner Robert Jackson has also expressed opposition to changing the SEC’s position on forced arbitration without extensive public input, citing the sheer scale of private enforcement of securities laws and the SEC’s own limited resources. Outgoing Commissioner Michael Piwowar, however, spoke favorably last year about companies including mandatory arbitration clauses in their charters.