[House Hearing, 116 Congress]
[From the U.S. Government Publishing Office]
PUTTING INVESTORS FIRST: REVIEWING
PROPOSALS TO HOLD EXECUTIVES ACCOUNTABLE
=======================================================================
HEARING
BEFORE THE
SUBCOMMITTEE ON INVESTOR PROTECTION,
ENTREPRENEURSHIP, AND CAPITAL MARKETS
OF THE
COMMITTEE ON FINANCIAL SERVICES
U.S. HOUSE OF REPRESENTATIVES
ONE HUNDRED SIXTEENTH CONGRESS
FIRST SESSION
__________
APRIL 3, 2019
__________
Printed for the use of the Committee on Financial Services
Serial No. 116-15
Available via the World Wide Web: http://www.govinfo.gov
__________
U.S. GOVERNMENT PUBLISHING OFFICE
37-398 PDF WASHINGTON : 2019
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HOUSE COMMITTEE ON FINANCIAL SERVICES
MAXINE WATERS, California, Chairwoman
CAROLYN B. MALONEY, New York PATRICK McHENRY, North Carolina,
NYDIA M. VELAZQUEZ, New York Ranking Member
BRAD SHERMAN, California PETER T. KING, New York
GREGORY W. MEEKS, New York FRANK D. LUCAS, Oklahoma
WM. LACY CLAY, Missouri BILL POSEY, Florida
DAVID SCOTT, Georgia BLAINE LUETKEMEYER, Missouri
AL GREEN, Texas BILL HUIZENGA, Michigan
EMANUEL CLEAVER, Missouri SEAN P. DUFFY, Wisconsin
ED PERLMUTTER, Colorado STEVE STIVERS, Ohio
JIM A. HIMES, Connecticut ANN WAGNER, Missouri
BILL FOSTER, Illinois ANDY BARR, Kentucky
JOYCE BEATTY, Ohio SCOTT TIPTON, Colorado
DENNY HECK, Washington ROGER WILLIAMS, Texas
JUAN VARGAS, California FRENCH HILL, Arkansas
JOSH GOTTHEIMER, New Jersey TOM EMMER, Minnesota
VICENTE GONZALEZ, Texas LEE M. ZELDIN, New York
AL LAWSON, Florida BARRY LOUDERMILK, Georgia
MICHAEL SAN NICOLAS, Guam ALEXANDER X. MOONEY, West Virginia
RASHIDA TLAIB, Michigan WARREN DAVIDSON, Ohio
KATIE PORTER, California TED BUDD, North Carolina
CINDY AXNE, Iowa DAVID KUSTOFF, Tennessee
SEAN CASTEN, Illinois TREY HOLLINGSWORTH, Indiana
AYANNA PRESSLEY, Massachusetts ANTHONY GONZALEZ, Ohio
BEN McADAMS, Utah JOHN ROSE, Tennessee
ALEXANDRIA OCASIO-CORTEZ, New York BRYAN STEIL, Wisconsin
JENNIFER WEXTON, Virginia LANCE GOODEN, Texas
STEPHEN F. LYNCH, Massachusetts DENVER RIGGLEMAN, Virginia
TULSI GABBARD, Hawaii
ALMA ADAMS, North Carolina
MADELEINE DEAN, Pennsylvania
JESUS ``CHUY'' GARCIA, Illinois
SYLVIA GARCIA, Texas
DEAN PHILLIPS, Minnesota
Charla Ouertatani, Staff Director
Subcommittee on Investor Protection, Entrepreneurship,
and Capital Markets
CAROLYN B. MALONEY, New York, Chairwoman
BRAD SHERMAN, California BILL HUIZENGA, Michigan, Ranking
DAVID SCOTT, Georgia Member
JIM A. HIMES, Connecticut PETER T. KING, New York
BILL FOSTER, Illinois SEAN P. DUFFY, Wisconsin
GREGORY W. MEEKS, New York STEVE STIVERS, Ohio
JUAN VARGAS, California ANN WAGNER, Missouri
JOSH GOTTHEIMER. New Jersey FRENCH HILL, Arkansas
VICENTE GONZALEZ, Texas TOM EMMER, Minnesota
MICHAEL SAN NICOLAS, Guam ALEXANDER X. MOONEY, West Virginia
KATIE PORTER, California WARREN DAVIDSON, Ohio
CINDY AXNE, Iowa TREY HOLLINGSWORTH, Indiana, Vice
SEAN CASTEN, Illinois Ranking Member
ALEXANDRIA OCASIO-CORTEZ, New York
C O N T E N T S
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Page
Hearing held on:
April 3, 2019................................................ 1
Appendix:
April 3, 2019................................................ 35
WITNESSES
Wednesday, April 3, 2019
Coffee, John C., Jr., Adolf A. Berle Professor of Law, and
Director of the Center on Corporate Governance, Columbia Law
School......................................................... 5
Lubin, Melanie Senter, Maryland Securities Commissioner, on
behalf of the North American Securities Administrators
Association.................................................... 7
Gregg, Remington A., Counsel for Civil Justice and Consumer
Rights, Public Citizen......................................... 8
Quaadman, Thomas, Executive Vice President, Center for Capital
Markets Competitiveness, U.S. Chamber of Commerce.............. 9
APPENDIX
Prepared statements:
Coffee, John C., Jr.......................................... 36
Gregg, Remington A........................................... 46
Lubin, Melanie Senter........................................ 64
Quaadman, Thomas............................................. 73
Additional Material Submitted for the Record
Maloney, Hon. Carolyn:
Written statement of the American Association for Justice.... 90
Written statement of the Council of Institutional Investors.. 92
Written statement of the Public Investors Arbitration Bar
Association................................................ 102
Huizenga, Hon. Bill:
Written statement of the Securities Industry and Financial
Markets Association........................................ 113
PUTTING INVESTORS FIRST:
REVIEWING PROPOSALS TO HOLD
EXECUTIVES ACCOUNTABLE
----------
Wednesday, April 3, 2019
U.S. House of Representatives,
Subcommittee on Investor Protection,
Entrepreneurship, and Capital Markets,
Committee on Financial Services,
Washington, D.C.
The subcommittee met, pursuant to notice, at 2:32 p.m., in
room 2128, Rayburn House Office Building, Hon. Carolyn B.
Maloney [chairwoman of the subcommittee] presiding.
Members present: Representatives Maloney, Sherman, Scott,
Himes, Foster, Vargas, Gottheimer, Gonzalez of Texas, San
Nicolas, Porter, Axne, Casten, Ocasio-Cortez; Huizenga, Wagner,
Hill, Mooney, Davidson, and Hollingsworth.
Ex officio present: Representative McHenry.
Also present: Representative Green.
Chairwoman Maloney. The Subcommittee on Investor
Protection, Entrepreneurship, and Capital Markets will come to
order.
Without objection, the Chair is authorized to declare a
recess of the subcommittee at any time. Also, without
objection, members of the full Financial Services Committee who
are not members of this subcommittee are authorized to
participate in today's hearing.
Today's hearing is entitled, ``Putting Investors First:
Reviewing Proposals to Hold Executives Accountable.'' I now
recognize myself for 2 minutes to give an opening statement.
This is a legislative hearing on six different bills that
are aimed at improving the accountability of public companies
and executives. First, we have a draft bill that I have
authored called the 8-K Trading Gap Act of 2019. Right now,
when there is a significant corporate event at a public
company, the company has to disclose that significant event to
the public by filing a Form 8-K within 4 days of the event
occurring.
And there has been research from academics at Columbia and
Harvard showing that executives do actually trade profitably in
this 4-day gap. My bill would address this problem by simply
prohibiting executives from trading during this 4-day gap.
Next, we have a bill by Mr. Himes that would, for the first
time ever, codify insider trading law. I think this is really
important because up to now, all insider trading law has been
developed by the courts and not by Congress. Mr. Himes' bill
would set out a statutory definition of insider trading and
would also reverse the harmful U.S. v. Newman court decision
from 2014.
Next, we have a bill by Mr. Foster which would prohibit
brokers and investment advisers from using forced arbitration
clauses in their customer agreements. The bill would also
prohibit public companies from inserting forced arbitration
clauses in their company bylaws, which I believe is illegal
already, but which could benefit from additional clarity.
Mr. Green also has a bill to protect whistleblowers by
clarifying that their employers can't retaliate against them
even if they report suspected wrongdoing internally first
before they report it to the SEC. This would fix a recent
Supreme Court decision which found that only whistleblowers who
report wrongdoing to the SEC are protected against retaliation
by their employers.
And, we have two discussion drafts that would finally force
the SEC to finalize two important Dodd-Frank Act rulemakings on
executive compensation.
I very much look forward to hearing from our witnesses on
all of these bills.
And with that, the Chair now recognizes the ranking member
of the subcommittee, Mr. Huizenga, for 4 minutes for an opening
statement. Thank you.
Mr. Huizenga. Thank you, Madam Chairwoman.
In a challenging global economy, America's capital markets
are the key to our long-term economic growth. However, many of
today's rules and regulations governing startups,
entrepreneurs, small businesses, and investors were conceived
in the 1930s and 1940s, and parenthetically, a Senator from
Michigan, from Grand Rapids, a part of my district area, Arthur
Vandenburg, was instrumental in that.
Well, the telephone was cutting edge for Arthur Vandenburg
and times have definitely changed. If the U.S. wants to compete
principally with China and win in a 21st Century global
marketplace, then the U.S. needs to break free from old
constraints and modernize our capital markets.
Now, we all know that small businesses are what drive the
American economy. These innovators, entrepreneurs, and risk
takers are critical for our country's economic prosperity.
Small businesses make up 99 percent of all enterprises and
helped create more than 60 percent of the nation's net new jobs
over the past 2 decades. Approximately three quarters of all
small businesses relied on financing in the last 12 months.
However, nearly 70 percent of startups received less financing
that they initially requested, while 28 percent received no
financing at all.
It is important to note that 80 percent of business debt
financing comes from investors in our capital markets, not
lenders at our banks. These numbers do not bode well for
American innovation and business. The U.S. continues to witness
a slump in the number of new businesses, which in 2016 hit a
record 40-year low. The U.S. is only seeing half the number of
domestic IPOs that it had 20 years ago, while the U.S. doubled
the regulatory compliance costs a business must undertake.
With more companies opting for private fundraising rather
than the public market, the number of public companies has
decreased to levels not seen since the 1980s when the economy
was literally half the size of what it is now, today. This
means everyday investors on Main Street are missing out on
valuable opportunities to invest in the next Microsoft, Amazon,
Google, or other such companies.
IPOs have historically been one of the most meaningful
steps in the life cycle of a company, which meant that going
public was the ultimate goal for many entrepreneurs. You start
a business from scratc, you build it up as a successful
enterprise, and then you open up the opportunity for the public
to share in that success.
Going public not only affords companies many benefits,
including access to the capital markets, but IPOs are also
important to the investing public. By completing an IPO, a
company is able to raise much-needed capital for job creation
and expansion opportunities all while allowing Main Street
investors the opportunity to have an economic piece of the
action and the ability to participate in the growth phase of a
company.
For a myriad of reasons, the public model is no longer
viewed as an attractive means of raising capital. Instead,
small and emerging growth companies are choosing to go public
much later in their life cycle or choosing not to go public at
all. And many of them, I might add, are now not just millions,
not tens of millions, hundreds of millions, but sometimes
billions of dollars. And when we refer to them as ``unicorns,''
I am not sure we can do that anymore. When you see the number
of ``unicorns,'' we have a herd of unicorns out there and at
some point, we need to allow these folks to go public.
So, we must work to change that trajectory. While speaking
at the New York Economic Club, SEC Chairman Clayton stated
that, ``Regardless of the cost, the reduction in the number of
U.S. listed public companies is a serious issue for our markets
and the country more generally. To the extent companies are
eschewing our public markets, the vast majority of Main Street
investors will be unable to participate in their growth. The
potential lasting effects of such an outcome on the economy and
society are in two words, `not good'.''
While today's hearing is entitled, ``Putting Investors
First: Reviewing Proposals to Hold Executives Accountable,'' we
can all agree that we should put investors first, but these six
proposals in my opinion will do very little to truly protect
investors. As currently drafted, these bills in many cases will
do more harm than good by creating more barriers to capital
formation, and will further deter smaller private companies
from going public, in turn, ultimately limiting options and
access for Main Street investors as well as ``Mr. and Mrs.
401(k).''
With that, I yield back.
Chairwoman Maloney. The Chair now recognizes the gentleman
from California, Mr. Sherman, for one minute.
Mr. Sherman. The ranking member is correct that we need
good capital markets, although I don't think the private equity
is inferior. But perhaps the biggest problem with our public
markets is that so many investors are making decisions based
upon quarterly considerations or even in a quarter second
buying and selling stock, and I can see how some companies
would rather have owners that were more stable and more
committed and allowed them to think in a 5-year horizon, rather
than a 5-minute horizon.
The bills before us today will make our system fair.
Capitalism will not succeed if it is regarded as rigged. We
need to prevent insider trading. We need to protect
whistleblowers. And as to putting something in the bylaws
requiring arbitration, that is illegal under just about every
State's corporate law. But some States will no doubt try to
compete for businesses to incorporate in that State by lowering
their standards even further, if we don't act to make it plain
that you do not give up your right to sue just by buying stock,
especially if you are buying stock under false pretenses, which
is the nature of what you are suing for to begin with.
With that, I yield back.
Chairwoman Maloney. The Chair recognizes the ranking member
of the full Financial Services Committee, Mr. McHenry, for 1
minute.
Mr. McHenry. Thank you, Chairwoman Maloney.
And, look, our capital markets are decaying. The average
age of listed stocks is getting older and yet, we have fewer
stocks as the economy still grows. We have a problem with our
public markets. And at the same time, we have what is really
essentially the new stock market with the greatest upside
potential in the path to prosperity and that is happening in
the private markets, places where only the wealthy and
connected get a chance to succeed.
This is happening while at the same time our government
allows people to invest in lottery tickets. We spend $80
billion annually as Americans on lottery tickets, yet we are
preventing average everyday investors from actually investing
in our economy, investing in America, and having the upside
opportunity to make sure that they can grow with a growing
economy and grow with prosperity and have capital at work in
our systems. We need to fix this and we need to have a more
vibrant capital market structure so that small businesses and
everyday investors can succeed.
Chairwoman Maloney. The Chair now recognizes the gentleman
from Connecticut, Mr. Himes, for 1 minute.
Mr. Himes. Thank you, Madam Chairwoman, and I am grateful
for this hearing. And to Ranking Member McHenry, I am hoping I
can persuade you that a prohibition on insider trading is not
in fact an argument about regulation unless we want to
contemplate regulating insider trading as opposed to forbidding
it.
And the reason I say that is because remarkably, there is
no statutory prohibition today on insider trading. We prosecute
insider trading using fraud provisions in Sections 10(b) and
16b of the Securities and Exchange Act of 1934. This has led to
a judicial mess. Just to give you a little bit of a flavor in
my remaining 30 seconds, in August of 2017, in U.S. v. Martoma,
the 2nd Circuit overruled its own 2014 decision in U.S. v.
Newman which was a case that was seen as a test of the Supreme
Court's 2016 decision in Salman v. U.S. on insider trading.
All of this activity involved people having their
convictions overturned and a great deal of expenditure of
judicial resources. If we are going to send people to jail for
breaking the law, we should make that law very clear, and this
is our opportunity to do so.
Professor Coffee, thank you for being here. Ranking
Members, I hope I can persuade you of this, and that we can
create some clarity around something that creates a great deal
of confusion and loss of confidence in our capital markets. And
with that, I yield back.
Chairwoman Maloney. Thank you.
Today, we welcome the testimony of a distinguished panel of
witnesses. First, we have Professor John Coffee from the great
City of New York. He is the Adolf A. Berle Professor of Law at
Columbia Law School, and the director of Columbia's Center on
Corporate Governance. Welcome back, Professor Coffee.
Second, we have Melanie Lubin, who is the Maryland
Securities Commissioner and is testifying today on behalf of
the North American Securities Administrators Association. Next,
we have Remington Gregg, who is counsel for civil justice and
consumer rights at Public Citizen. And last, we have Tom
Quaadman, who is the executive vice president of the Center for
Capital Markets Competitiveness at the U.S. Chamber of
Commerce.
Witnesses are reminded that your oral testimony will be
limited to 5 minutes. And without objection, your written
statements will be made a part of the record.
Professor Coffee, you are now recognized for 5 minutes to
give an oral presentation of your testimony, and thank you for
returning to testify once again before us.
STATEMENT OF JOHN C. COFFEE, JR., ADOLF. A. BERLE PROFESSOR OF
LAW, AND DIRECTOR OF THE CENTER ON CORPORATE GOVERNANCE,
COLUMBIA LAW SCHOOL
Mr. Coffee. Chairwoman Maloney, Ranking Member Huizenga,
and members of the subcommittee, I am both happy and honored to
be back here today. I have been asked to talk about several
bills, all of which I favor, some of which needs some
significant tweaks, but I am going to spend my time dealing
with the insider trading statute.
And here, I want to commend Congressman Himes for having
supervised the drafting of a careful, balanced, and
sophisticated bill that should serve as a model for the long
overdue--I underline--long overdue effort to codify the law of
insider trading. To date, as was just noted, law is entirely
judge made and that has some cost. When you rely on judge-made
law, it goes in five different directions. There are 10
different circuits at least. It goes in many directions at once
and it can often be inconsistent.
Frankly, this inconsistency has a number of problems. I
have to note here briefly that I am not without some conflict
here, because I have consulted on this statute over the last
several years. I am not the primary draftsman, but I do think
this is a statute that has evolved carefully and should be
looked at with a great deal of care.
Now, that being said, I want to take you through the
backdrop of where we are today. There is general agreement that
the law of insider trading has grown overly complex and
technical. As a result, it is hard for the public to understand
its logic or for practitioners to give advice to their clients.
Even worse, when you depend on judge-made law, you are going to
get disparities and inconsistencies.
Let me just illustrate in a sentence. Since 2014, the 2nd
Circuit has done an 180-degree about-face from its decision in
Newman in 2014 that very much interfered with the prosecution
of insider trading, to its more recent decisions in Martoma in
2017 and Gupta in 2018 which has expanded the law considerably
more than many of us thought it was going to go. But it is far
from clear whether other circuits will accept these latest
precedents or whether the Supreme Court will sustain them.
All of this means it is a propitious time today for
Congress to set standards. When Congress sets standards, there
is less uncertainty. When courts make up the law on their own,
they can follow any direction they want, confined only by
whatever limits are in the statute.
Okay. Now, I should also point out that I am a member of
the Task Force on Insider Trading which has been assembled by
Preet Bharara, the former U.S. Attorney in the Southern
District of New York. And although I cannot speak for that task
force, we are focused only on insider trading and I think we
basically all agree that we need to move the law in a direction
of greater clarity and simplification.
In this light, the key virtues of the Insider Trading
Prohibition Act that we have before us are: one, it is
comparatively easy to understand; and two, it extends the
criminal prohibition to reach clearly egregious conduct or
misbehavior that is outside the law of fraud but is instead on
the matter of computer hacking or theft or extortion or
something else, equally egregious but not within the scope of
Section 10(b).
Now, what does this new statute do? Essentially two things:
one, it eliminates the need that the tippee pay or be promised
some personal benefit by the tipper. This requirement has
proved to be a very difficult obstacle, both because those
payments can be hidden and even more so, because there is a
norm of reciprocity on Wall Street. That is, one hedge fund may
tip another without getting any promise or any payment because
it expects pursuant to this norm of reciprocity that it will
get something in the future.
Sometimes, Wall Street resembles a giant favor bank, and in
favor banks you know that if you are going to make withdrawals
and receive a favor, you have to pay it back eventually if you
want to continue access, and that has been going on. You just
need to understand the scale of these transactions.
In Martoma, the most important recent case, the profits
made and losses averted by Steven A. Cohen who runs something
called SAC Capital, now shut down, exceeded $270 million--$270
million--in just a day or two of trading. That's more than the
mafia has ever done. Okay. That is the first point about the
need to eliminate this personal benefit rule.
The second point is there is some expansion of liability
here, but it shouldn't be controversial because it only expands
liability to cover other forms of egregious misbehavior. The
statute 10(b) only precludes manipulation, deception, or
contrivances. That leaves out computer hacking, theft, and
extortion. And what makes the law simpler here in this statute
is that it has to be a wrongful stealing or misappropriation of
the information which may not involve fraud. But there has to
be a wrongful taking of the information and then you can have--
Chairwoman Maloney. The gentleman's time has expired.
Mr. Coffee. My time is up.
[The prepared statement of Mr. Coffee can be found on page
36 of the appendix.]
Chairwoman Maloney. Ms. Lubin, you are recognized for 5
minutes for your testimony.
STATEMENT OF MELANIE SENTER LUBIN, MARYLAND SECURITIES
COMMISSIONER, ON BEHALF OF THE NORTH AMERICAN SECURITIES
ADMINISTRATORS ASSOCIATION
Ms. Lubin. Thank you, Chairwoman Maloney. Good afternoon,
Chairwoman Maloney, Ranking Member Huizenga, and members of the
subcommittee. Thank you for the opportunity to testify today.
My name is Melanie Lubin. For the past 33 years, I have
worked with the Securities Division in the Office of the
Maryland Attorney General, serving since 1998 as the Maryland
Securities Commissioner.
I also represent Maryland within the North American
Securities Administrators Association known as NASAA, where I
currently serve as a board member and a member of the
association's Committee on Federal Legislation. Since 2015, I
have also served as the association's representative to the
Financial Stability Oversight Council.
NASAA members include State securities regulators, who for
more than 100 years have served on the frontlines of investor
protection, safeguarding the financial futures of hardworking
Americans and assisting local businesses and entrepreneurs in
raising investment capital.
NASAA applauds the subcommittee on its decision to hold its
initial hearings of the 116th Congress on proposals that
explicitly put the interests of Main Street investors first.
These investors are an engine of prosperity helping to drive
our nation forward. When we put the interests of Main Street
investors first, our capital markets, our economy, and our
country all win.
I will use the remainder of my statement to summarize
NASAA's perspective on the six legislative proposals that are
the subject of today's hearings. First, NASAA is very
supportive of the Investor Choice Act of 2019, introduced by
Representative Foster. The bill is a modernized and expanded
version of legislation that NASAA supported when it was
introduced in 2013.
Like the 2013 proposal, this bill will prohibit broker-
dealers and investment advisers from including binding pre-
dispute arbitration clauses in customer account agreements.
These clauses deprive investors of the opportunity to pursue
their day in court and instead force them into arbitration.
Arbitrators are not instructed and do not have to follow the
law. There are limited appeal rights and limited opportunities
for discovery.
The current bill goes further by prohibiting the use of
pre-dispute arbitration clauses in relation to shareholder
disputes with corporate issuers. We strongly support the bill
and we look forward to working with the chairwoman and the
committee in passing the legislation this year.
Second, NASAA shares the committee's interest in creating a
statutory definition of insider trading, an explicit definition
that will add great clarity and consistency to this important
area of the law. By proposing to codify much of the existing
case laws surrounding insider trading, the Insider Trading
Prohibition Act is a major step forward.
Third, NASAA welcomes the introduction of the 8-K Trading
Gap Act of 2019 by the chairwoman. This bill aims to close the
so-called 8-K trading gap, which is the 4-day period between
the occurrence of a material event and when the event must be
publicly disclosed pursuant to the SEC's rules. We agree that
there appears to be compelling evidence that this trading gap
exists and that it unfairly advantages corporate insiders by
enabling them to enter into securities transactions before the
public release of that information. Closing this gap is a basic
issue of fairness for retail investors.
Fourth, NASAA is similarly supportive of draft legislation
sponsored by Representative Green entitled, ``A Bill to Amend
the Securities and Exchange Act of 1934 to amend the definition
of whistleblower.'' The bill would revise Section 922 of the
Dodd-Frank Act to clarify that whistleblowers are protected by
any retaliation provisions when they report alleged misconduct
to their employers. This bill is a necessary response to the
Supreme Court's 2018 holding of Digital Realty Trust, Inc. v.
Somers, that only whistleblowers reporting directly to the SEC
are protected.
Last, two of the legislative proposals before the committee
concern outstanding rulemakings to address executive
compensation. Specifically, these bills seek to strongly
encourage the SEC to complete rulemakings mandated by Dodd-
Frank Sections 953(a) and 954. NASAA strongly supported the
Dodd-Frank Act. The preceding financial crisis had made it
clear that the existing regulatory landscape required an
overhaul to prevent another economic crisis and to restore the
confidence of Main Street investors. The Dodd-Frank Act has
largely achieved its goals, and where appropriate, Congress has
taken steps to adjust certain of its provisions.
Just as the 111th Congress was correct to reform our
financial system in 2010, the 116th Congress is correct to
insist that the SEC fully implement the law, including by
completing these mandatory rulemakings.
Thank you for the opportunity to testify before the
subcommittee. I will be pleased to answer any questions that
you may have.
[The prepared statement of Commissioner Lubin can be found
on page 64 of the appendix.]
Chairwoman Maloney. Thank you.
Mr. Gregg, you are now recognized for 5 minutes for your
testimony.
STATEMENT OF REMINGTON A. GREGG, COUNSEL FOR CIVIL JUSTICE AND
CONSUMER RIGHTS, PUBLIC CITIZEN
Mr. Gregg. Good afternoon, Chairwoman Maloney, Ranking
Member Huizenga, and members of the subcommittee. On behalf of
Public Citizen and our 500,000 members and supporters, thank
you for giving me the opportunity to testify.
My written testimony lays out why we support all of the
bills that we are discussing today. But for a few moments, I
would like to talk about the need to protect everyday investors
from forced arbitration.
Forced arbitration is a secretive, privatized system of
justice. It deprives people of their day in court. There are no
rules of evidence and almost no procedural safeguards, no
requirement that the arbitrator follow law or precedent,
virtually no ability for you to appeal if you lose. And guess
what? You will lose.
Forced arbitration is ubiquitous in consumer and worker
contracts. According to Cornell's Alexander Colvin, ``When
forced into arbitration, workers prevail just 21 percent of the
time.'' According to the Economic Policy Institute, consumers
prevail just 9 percent of the time; when corporations make
claims or counterclaims, however, they win 93 percent of the
time. So, it is easy to understand why corporate America likes
forced arbitration clauses so much.
That is why Congress must pass the Investor Choice Act. It
would protect everyday investors by placing firmly into law the
SEC's longstanding policy, ensuring that everyday investors can
continue banding together in order to vindicate their rights.
It is hard for the retail investor, ``Mr. and Mrs. 401(k),''
the everyday investor, whatever you want to call us, to bring a
claim alone under the Federal securities laws.
If everyday investors can now band together against
corporate bad actors, we will see what we see in the consumer
and worker context. That is namely, very few actually enforcing
their rights and letting bad actors get off the hook. And is
that what we want? Because what we will get is less
accountability of corporate wrongdoers, less incentive for them
to do the right thing, and more emboldened corporate
malfeasors.
At a time when more than 80 percent of all people, that is
Republicans and Democrats, oppose forced arbitration, Congress
and the subcommittee must protect everyday investors, protect
their families, and safeguard their hard-earned savings.
Thank you and I look forward to your questions.
[The prepared statement of Mr. Gregg can be found on page
46 of the appendix.]
Chairwoman Maloney. Our last witness is Mr. Quaadman. You
are now recognized for 5 minutes for your testimony.
STATEMENT OF THOMAS QUAADMAN, EXECUTIVE VICE PRESIDENT, CENTER
FOR CAPITAL MARKETS COMPETITIVENESS, U.S. CHAMBER OF COMMERCE
Mr. Quaadman. Good afternoon, Chairwoman Maloney, Ranking
Member Huizenga, and members of the subcommittee. Thank you for
the opportunity to testify today and for the subcommittee's
continued focus on issues related to investor protection and
capital formation.
Business growth is a dynamic engine of American economic
prosperity. Launching a business doesn't guarantee an outcome,
but it provides an owner, employees, and their community with
the chance to fulfill the American dream. Laws, regulations,
and oversight provide the certainty for investors to allocate
the capital for those firms to start and to grow. In other
words, investors provide the gas for the engine to run.
If a business is successful and can grow into a public
company, we all benefit. When a business goes public, it
reaches its apex of job creation, revenue growth, and wealth
distribution. Yet today, we have half the number of companies
that we did in 1996. Of the 2,700 businesses that went through
the IPO process between 1996 and 2010, they created 2.2 million
and their revenue increased by over $1 trillion.
Today, the Hong Kong Stock Exchange outpaces any U.S. stock
exchange in terms of number of IPOs. Regional IPOs, those
between $50 million and $100 million, were prevalent in the
1980s and 1990s and they distributed wealth to retail investors
in all the different parts of our country. Those IPOs today no
longer exist.
We appreciate the intent of the bills that are before us
today, but we have concerns with several of them. The Chamber
strongly agrees that there is no place for insider trading.
Insider trading benefits neither investors nor businesses, and
we appreciate the clarity that Mr. Himes is trying to bring to
the subject since our insider trading rules are a
conglomeration of regulation and court precedent.
However, we have concerns with the bill, namely three of
them: one, that this bill would treat insider trading as a
strict liability crime; two, that it would create an endless
causation chain stemming from the action between the tipper and
the tippee; and three, that it would actually outlaw 10(b)(5)
plans which are specifically designed to prevent insider
trading.
We also have concerns with Trading Gap Act of 2019, though
we understand the intent of the bill. Our concerns are that
there is material nonpublic information which is actually not
publicly disclosed and furthermore, there is a cohort of
officers who may not be privy to material, nonpublic
information as a 4-day window--decision window is underway.
We also oppose the Investors Choice Act of 2019. Securities
class actions actually deprive investors of return. This bill
would make it harder for investors to have their wrongs
redressed. Arbitration allows them to have their wrongs
repressed in a quick fit manner and instead, it would
incentivize class action lawsuits and wouldn't provide
investors compensation.
Securities class action lawsuits are a top reason why
businesses do not go public and why international capital
sometimes seeks not to come to the United States. The Chamber
also supports claw-backs as a tool to help address wrongs and
also to act as a deterrent. However, the bill that is before us
today is over-inclusive. It includes many executives who have
nothing to do with financial reporting, such as human resources
executives.
Furthermore, the SEC in its proposal failed to recognize
its own recommendations for reporting, for financial reporting
modernizations which are necessary for claw-backs to be
effective. We also have concerns with pay versus performance,
though we do think ultimately this could be a good disclosure
for investors.
We believe for pay versus performance to work, it should
have a principles-based approach. However, the SEC proposal
would in fact put short-term-ism on steroids. We also have
concerns with the whistleblower amendment. We agree that it is
important for employees to report to the company first or
simultaneously with the SEC, and even with the Digital Realty
decision, whistleblowers still have protections under the
Sarbanes-Oxley Act.
We do think that there is an important loophole in the
Dodd-Frank whistleblower rules that should be fixed, namely
that a criminal who is engaged in criminal activities can in
fact become a whistleblower and seek a bounty and profit from a
crime twice. We do not think that wrongdoers should be able to
profit from their own wrongdoing.
The current bills collectively we believe would create
further disincentives for businesses to go or remain public. We
are willing to work with Chairwoman Maloney and the drafters of
the bills to address our concerns, and we hope we can come to a
resolution on these issues as well as address the reasons why
companies are not going public. Thank you.
[The prepared statement of Mr. Quaadman can be found on
page 73 of the appendix.]
Chairwoman Maloney. Thank you. I thank all the panelists.
I now recognize myself for 5 minutes for questions.
Ms. Lubin, I want to ask you about the 8-K Trading Gap Act.
As you know, SEC rules give public companies 4 days to disclose
significant corporate events on an 8-K, and sometimes,
companies actually need this time to prepare for the filings,
especially if they are filing a complicated merger and they
need to summarize all the terms. So, there are legitimate
reasons for giving companies 4 days to file an 8-K.
But is there any reason to allow company executives to
trade during this 4-day gap? Wouldn't it be simpler to just
prohibit executives from trading at all during this 4-day gap
as my bill would do?
Ms. Lubin. Thank you for your question. There may be very
valid reasons for allowing 4 days for a company to prepare a
filing. But whether that delay should be 4 days as in the
current rule or something shorter, for example, the 2 days that
the SEC had originally requested, can be open to debate.
But the key point here really is that whatever the amount
of time, there is no valid reason that insiders with knowledge
of a material event should be able to trade during that time
period. When they are aware that there you have market moving
information that is not publicly available to other investors,
they really shouldn't be trading. Your bill is a
straightforward approach to address the issue. The issue is
about fairness and confidence in our capital markets, and the
policies your bill would require firms to implement would help
level the playing field between insiders and Main Street
investors.
Chairwoman Maloney. Thank you.
Professor Coffee, I want to ask you about Mr. Himes'
insider trading bill. I personally think that a bill that
formally codifies insider trading is long overdue and I want to
congratulate my colleague for doing such a great job on this
bill. Can you talk a little bit about why it is so important
for laws like insider trading which can carry criminal
consequences to be explicitly defined by statute?
Mr. Coffee. As early as 1812, our Supreme Court said that
common law crimes are unconstitutional. No one has ever created
this crime. No question about it that the Supreme Court has
upheld it at least three times. But, we want the legislature to
pass criminal statutes because courts are not in the business
of representing the community and deciding what is criminal.
And moreover, when you have 10 different circuits, you are
going to get disparities and inconsistencies, and that has
characterized the last 10 years.
When you have a statute passed by Congress, there will be
courts everywhere coalescing around the mainstream of that
statute. Yes, there will be issues, but it will be clear that
you will have less disparities and less possibilities of people
being surprised by new interpretations. So, I think that is the
core of the reason why you should prefer legislation of
criminal law than judicial construction of it.
This is not a question about whether insider trading should
be unlawful. This is a question about whether Congress should
do it or every individual judge should write in the blanks what
he thinks works best. That is my analysis.
Chairwoman Maloney. Thank you.
And, Mr. Gregg, as you know, forced arbitration clauses are
common in brokerage agreements, but some people want companies
to go even further by inserting forced arbitration clauses
directly into company bylaws.
I strongly oppose this, and I think it is already illegal
under Federal law. This would prevent shareholders of public
companies from bringing class action lawsuits against the
company for any security claims including securities fraud. Can
you give us some examples of class action lawsuits for
securities fraud that have been successful for shareholders?
Mr. Gregg. Well, there have been several, and what we have
seen is that when everyday investors are able to bring those
securities fraud violations, whether you are talking about
WorldCom or Enron, they are able to recoup significantly more
when they are able to bring those claims. So, there is no doubt
that we are able to see an increase in recoupment.
Right now, actually, Google shareholders are seeking to sue
for what they have done, hiding systemic discrimination and
harassment.
Chairwoman Maloney. My time has expired.
And I now recognize the distinguished ranking member of the
subcommittee for 5 minutes for questioning.
Mr. Huizenga. Thank you, Madam Chairwoman. I appreciate the
opportunity to be here, and I would be remiss not to say that I
would encourage the Majority to give us a little more notice
than 5 p.m. on Friday with a hearing notice to be able to be
prepared to fully explore some of these issues. I just would
ask the Chair to take that into consideration. She and I have a
great working relationship. I want to continue with that.
And I do agree with my colleague from California about his
concern about quarterly statements that he was talking about.
This has been something I have talked about for years, when you
have more focus on quarterly statements rather than, and
quarterly results, rather than long-term thinking and long-term
planning and long-term strategy, it does change that, and we
have had various discussions about possibly changing some of
those reporting requirements. I would like to explore that at
some point.
And I do believe that this subcommittee at its heart is
well summed up by saying investor protection, entrepreneurship,
and capital markets, and we must preserve our edge, our
advantage that we have as a country with the capital markets
that we have.
Mr. Quaadman, I am going to direct a couple of questions
towards you about that and about some of the challenges of
being a public company here in the United States. But I do also
want to maybe touch quickly on the 10(b) situation and Rule
10(b)(5) and have you address some of that, and I know my
colleague from Connecticut had a dialogue with Mary Jo White at
the time back in 2015 pursuing the line of questioning that he
had and her answer about whether there was an argument for
codifying that.
She said, ``I think `the Devil is in the details' is maybe
not quite the right expression to apply to this. I think it is
challenging to codify it clearly in a way that is both not too
broad and retains the strength of the common law.'' And that
was Mary Jo White in 2015, and the SEC has had some other
discussions on it.
So, Mr. Quaadman, if you could maybe touch on that first,
and then I want to talk a little bit about IPOs as well.
Mr. Quaadman. Sure. So, first off, I have tremendous
respect for Mary Jo White. She was one of the foremost criminal
prosecutors before she became SEC Chair. I do think she is
right that the Devil is in the details.
Our concern with the current bill here is that it is both
over-inclusive and under-inclusive. And I raise the issue about
10(b)(5) plans because we have to think about 10(b)(5) plans as
being almost like a blind trust that you can automatically sell
shares according to a program without having any input into
that.
Both the insider trading bill as well as the 8-K gap bill
create problems with 10(b)(5) plans. I think the insider
trading bill would actually outlaw them. So, we need to be
consistent with that, and I think that is something that should
be addressed.
In terms of the IPO issues, let me also put it in this way,
we are beginning to as a country lose our ability to address
these issues in a very forceful way. This committee has done a
lot over the years in terms of the JOBS Act to address some of
these issues, which has arrested the decline of public
companies in the United States. We haven't seen the number of
IPOs go up, but when we start to look at the two issues that
are really vexing it, one is research--well, the research rules
are being run by the Europeans through MIFID II and they are
going to go through a rewrite in 2020.
And when we start to look at capital, Chinese venture
capital over the last 2 years has become larger than American
venture capital. So, we have sat back for decades saying we
have the deepest, most liquid, most fluid capital markets. That
is increasingly no longer the case, and we need to take the
policy steps to correct that as well as get rid of those
obstacles which are preventing businesses from going public.
Mr. Huizenga. I have about 1 minute left here. Ed Knight,
who was executive vice president and general counsel of NASDAQ
New York, testified on the fifth anniversary of the JOBS Act
that, ``in talking to various corporations, you learn that the
primary challenge is not about going public, but it is
oftentimes about staying public and being public.''
Can you maybe explain a little bit about that? And then, if
we are looking at IPO cost of $2.5 million to go public and
$1.5 million to remain public, how is that viable for these
non-unicorn type companies? So, the challenges there.
Mr. Quaadman. That is exactly the reason why we are no
longer seeing those $50 million to $100 million IPOs that I had
mentioned earlier, the regional IPOs. The disclosure cost as
well as the shareholder proposal pressures no longer make it
one that is--it is viable for that model.
The other thing you have to remember with the unicorns as
well, is that it is no longer a cash-raising exercise. To some
degree, is is a cashing-out exercise. So, we are no longer even
seeing that as a funding mechanism and as a growth mechanism.
We are seeing it really as an allocation issue, and that
actually harms the ability of the economy to grow.
Chairwoman Maloney. The gentleman's time has expired.
And the gentleman from Georgia, Mr. Scott, is recognized
for 5 minutes.
Mr. Scott. Thank you, Madam Chairwoman. This is indeed a
very interesting and timely hearing. There is nothing more
important right now for our committee than to make sure we
offer our consumers, our financial consumers the absolute best
in terms of investor protection.
Professor Coffee, you were the only one of our panelists
who mentioned the Newman court case. And the reason I say that
is because I have just been given some very important
information, the Securities and Exchange Commission has given
this very pertinent information, they are saying, ``We are
warning that the Newman court decision will negatively affect
the Securities and Exchange Commission's ability to effectively
police and deter insider trading.''
So, I think to really grasp the meaning of why we are here,
we need to get some understanding of what the Securities and
Exchange Commission is saying here. Could you enlighten us on
this? And any of the other panelists, let us try to find out,
because these are the folks who have to police investor
protection. And if they are saying from the Newman case that
there is a very serious problem, we need to find out what they
are saying.
So, could you enlighten us?
Mr. Coffee. Certainly. The Commission is, I think, clearly
right. I should add that last year, 2 years ago now, the
Supreme Court partially overruled Newman, but they left a large
part of it to be still a barrier.
Now, in light of Newman, the southern district of New York
had to reverse something like 50 convictions that it had
obtained and the SEC didn't feel it could sue because you had
to prove under Newman not only did a remote to be new that
there had been a personal benefit paid by the original tipper
to the original tippee, but also that there was some expected
benefit that was going to go back the other way, that there was
a reciprocal benefit that had been promised.
It is very hard to know that. What's more, it gave rise to
a natural defense tactic, ``Don't ask, don't tell.'' If you do
not ask how the person knew it, you do not know whether or not
they had gotten this in return for paying a personal benefit to
the tipper. It was an impossible burden to put on the
prosecution.
Mr. Scott. Okay. So, what I want to get to here is that we
have Mr. Himes' bill, of which I am supportive. Are we
addressing that appropriately enough? Is there something we
need to do so that we are responding to the warning of the
Securities and Exchange Commission on this?
Mr. Coffee. Good question, and the answer is definitely,
because by abolishing the personal benefit rule, that is the
key provision that Newman elaborated and made a major, major
obstacle by saying not only there had to be a personal benefit
but that everybody in the remote chain of tippees had to know
exactly what that benefit was and had to have some awareness
that there was a promise going back the other way.
So, the Himes bill will definitely solve what remains of
the Newman problem, although the Supreme Court already has
partially reversed Newman.
Mr. Scott. Okay. Ms. Lubin?
Ms. Lubin. I think it is a very helpful bill, because as a
career civil prosecutor, it helps us when we bring cases and it
helps people when they are trying to comply with the law to
know what the parameters are and not have to worry about--I'm
sorry.
Mr. Scott. No. Go ahead. And so, where our Himes bill
addresses that to your satisfaction, Mr. Gregg, are we on
target here? We take care of that?
Mr. Gregg. Yes. You are on track.
Mr. Scott. All right. Mr. Quaadman?
Mr. Quaadman. Yes.
Mr. Scott. Let us hear from you.
Mr. Quaadman. Mr. Scott, as I outlined in my opening
statement, we have three major concerns with the Himes bill. We
also have a couple of concerns with the 8-K gap bill. We agree
with the intent of both bills, because we believe that insider
trading should be prohibited, I would also say to the 8-K gap
issue, there are two executives with Equifax who have been
charged with a crime because they were trading during that 4-
day period.
So, I think we would like to maybe address some of the
issues particularly with the Himes bill where we can get it
right because we think at some points, it is over-inclusive,
and at other points, it is under-inclusive, and we need to get
it right.
Mr. Scott. But I want to make sure that you are clear that
the Himes bill definitely takes care of the Securities and
Exchange Commission issue that was brought out in the Newman
court case.
Mr. Quaadman. Part of the fix that we see there, we think
actually deals with the mens rea issue in a wrong way and that
is part of the issue that we want to talk about.
Mr. Scott. Okay. Thank you.
Chairwoman Maloney. Thank you. The gentleman's time has
expired.
And the Chair recognizes the ranking member out of order.
Mr. Huizenga. Well, thank you, Madam Chairwoman, and I
appreciate the point of personal privilege.
I just wanted to welcome a couple of families from West
Michigan who are visiting here, the Keiper and Davies
families--teachers back in my district--and their kids. It is
very exciting here in the Financial Services Committee, kids. I
promise you that at least at some point in life, it will become
so. But they, along with so many other people, are here in
Washington, D.C., enjoying spring break. So, I appreciate that
opportunity to introduce my friends.
Chairwoman Maloney. Well, welcome to the committee.
The gentlewoman from Missouri, Mrs. Wagner, is recognized
for 5 minutes.
Mrs. Wagner. I thank the chairwoman.
Mr. Quaadman, I have a number of questions here. So,
please, if you could briefly discuss how the JOBS Act of 2012
has helped American companies and startups to reduce cost, gain
access to capital, and grow as public companies.
Mr. Quaadman. It did a few things. One is the road show and
testing the waters provisions has actually allowed investors
and businesses to go and have discussions and test things out
ahead of time, which has been helpful. It has also allowed for
certain onramp provisions to allow companies to grow into
certain disclosures rather than to have the burden of the cost
right upfront.
Mrs. Wagner. Despite some of the clear benefits that the
JOBS Act of 2012 had for startups, what are some of the
regulatory concerns that startups will still have today?
Mr. Quaadman. Well, we are talking about some of these here
today. Securities class action lawsuits are a very big reason
why companies don't go public. Proxy advisory firms are another
reason and in fact, the pay versus performance provisions
here--
Mrs. Wagner. Yes.
Mr. Quaadman. --would actually make--would entrench the
proxy advisory firms further without any oversight from the
SEC. There have also been some auditing issues coming out of
the PCOB that have caused some problems. But those three things
combined are amongst the reasons why we are not seeing
businesses go public.
Mrs. Wagner. Would the bipartisan capital formation bills
that originated in this committee and passed the House last
Congress as the Jobs and Investor Confidence Act build on the
success of the 2012 JOBS Act for small and emerging companies,
do you believe?
Mr. Quaadman. Yes. And that bill passed with over 400
votes. Those were small, incremental steps, as we were calling
it, a JOBS Act 3.0 at that point, that would again
incrementally help reverse that situation.
Mrs. Wagner. What do you believe are the biggest deterrents
to companies going public?
Mr. Quaadman. We have an out-of-kilter shareholder proposal
process. We have proxy advisory firms that are running rampant.
We have a number of other issues in terms of disclosure costs.
We have a disclosure system we have to really talk about, that
is rooted in the 1930s. It is no longer--it doesn't serve the
needs of the 21st Century economy.
As I have said before, when companies have to pick a
historic stock price on one date every year, I could tell you
what the cost--what the stock price of Alcoa was on June 17,
1972, it shows how out of date that system is, and then start
to replicate that hundreds and thousands of times. So, there
are obsolete disclosures we need to address.
Mrs. Wagner. And what size companies suffer the most from
the regulatory costs associated with going public?
Mr. Quaadman. The smallest, and that is the reason why I
said we are no longer seeing the regional IPOs. And that is why
you are seeing companies grow to be unicorns and then they are
going to take their time to decide if they want to go public or
not.
Mrs. Wagner. And that is my concern, is the small
companies, the startups, those emerging growth companies. Would
the bills discussed in today's hearing create additional
requirements on American public companies, adding to their
regulatory compliance cost, do you believe?
Mr. Quaadman. Yes, they would, and they would be
significant. And one other point, just to go back to your last
question just to hit one other point there, when unicorns go
public, retail investors can't get the benefits of that IPO. It
was the smaller IPOs that allowed the retail investor to reap
the rewards. That is why you saw people, everyday people
getting wealth distributed their way.
We are now seeing a closed system where certain large
investors reap the rewards and the retail mom and pop investor
is left in the dust.
Mrs. Wagner. As everyone knows on this committee, and I
certainly have expressed over and over again through the Reg BI
proposal and the long fiduciary struggle we have been through
between the SEC and the Department of Labor, I care deeply
about those low- and middle-income investors in my district and
across the country.
So, none of the proposals discussed today would apply to
private companies. So, would these increased compliance costs
for public companies deter private companies from going public?
Mr. Quaadman. Yes. Those private companies won't go public.
And I think what we have to recognize is, we still have the
gold standard when it comes to public capital markets, but we
are beginning to fall behind, and both Chairman Clayton at the
SEC and Chairman Duhnke at the PCAOB are trying to address
these issues.
But it is very important for Congress to set the
appropriate policy objectives, that we start to reverse these
trends.
Mrs. Wagner. And to go back to the five-point, how does a
company going public not only benefit the economy in terms of
jobs, but also America's Main Street investors?
Mr. Quaadman. Correct. Well, one of the things that we are
also seeing with this calcification of the IPO process, is that
50 percent of all business startups are occurring in 20
counties representing 17 percent of the American population.
Mrs. Wagner. Wow. Thank you. My time has expired. I yield
back.
Chairwoman Maloney. The gentleman from Connecticut, Mr.
Himes, is recognized for 5 minutes.
Mr. Himes. Thank you, Madam Chairwoman, and thank you to
the panel for your comments on my insider trading bill.
I am determined to get this through with bipartisan
support. I am telling my Republican friends that this is really
not a regulation bill. This is a question of making sure that
the activity that we all agree should be illegal, is in fact
illegal because the Congress passes a law making it illegal,
rather than ongoing interpretations by judges.
Mr. Quaadman, in my effort, because I know you raised some
objections in my effort to clear up possible objections to my
bill, you raised three objections that I would like to ask you
about. You said in your testimony that my Act would,
``establish insider trading as a strict liability crime and
remove any scienter requirement.''
I had to review the second year law school I never took as
a non-lawyer on scienter and mens rea, but I want to read to
you from Section 16a of my proposed legislation that reads that
one is liable only if such person ``knows or recklessly
disregards that such information has been obtained
wrongfully.'' So, that looks to me, and I am told that this is
the very standard set by SEC v. Obus for scienter and this by
the way is repeated back on pages four and five of my bill.
So, my question is, why do you think that the bill
established insider trading as a strict liability crime?
Mr. Quaadman. Because we think that some of the efforts
made in the bill to address the Newman issues, and I understand
what you are trying to do there, take away from a mens rea
requirement. Our reading of it was different than yours or
maybe Professor Coffee's which is why we thought that that
impacted mens rea.
Now, I would be willing to have a further discussion with
you offline about that, because we think that you do need a
mens rea requirement in order for insider trading legislation
to be effective.
Mr. Himes. But isn't ``knowing or recklessly disregarding''
the definition of mens rea?
Mr. Quaadman. Well, it is the measurement of intent that
the court would have to find and we do not necessarily think
when you take a look at the bill in total that it gets there.
Mr. Himes. Okay. Can you be more specific and point out a
line or a section you think is problematic in that regard?
Mr. Quaadman. What I can do is I can maybe get back to you
on that, but it was the reading of the total bill and in
addressing the Newman issue that we felt was affecting the mens
rea requirement.
Mr. Himes. Okay. I will follow up on that.
Mr. Quaadman. Yes.
Mr. Himes. Because I think we are pretty clear about
knowledge and intent here. But nonetheless, I am not a lawyer.
So, I will be deferential on the question. I assume by the way
that if we can satisfy each other on this point, this also
deals with the concern you had, your third concern on 10(b)(5)
plans, that 10(b)(5) plans are just plans that predetermine a
number of shares to be sold at a predetermined time?
So, if I am not acting wrongfully under my bill as my bill
defines it, that presumably wouldn't impact 10(b)(5) plans, in
fact, only if you altered a 10(b)(5) plan would you be liable,
I think.
Mr. Quaadman. Well, clearly, if you are altering a 10(b)(5)
plan and you have information, you are certainly in a grey area
there. But if you take a look at the two actions separately, if
you are in possession of knowledge that is not public and you
have a 10(b)(5) plan going on, whether or not you are, and let
us say you are not even addressing that or trying to change
that, under our reading of the bill, you actually couldn't go
forward with the 10(b)(5) sales.
Now, I think what that would do, we would have to do is
tweak the language somewhat that if you make the 10(b)(5) plan,
almost consider it like a blind trust, even if that member has,
if that person has knowledge and they are not affecting the
plan in any way or not adjusting the plan in any way, then, you
would then allow the 10(b)(5) plans to move forward.
Mr. Himes. Okay. Obviously, the intention here, in fact, if
you have a 10(b)(5) plan, by definition you have said, ``I will
sell these number of shares on this date without knowledge.''
So, this feels to me like a solvable problem.
Mr. Quaadman. Yes. I didn't think it was your intent to--
Mr. Himes. No, of course not.
Mr. Quaadman. --deter 10(b)(5) plans at all.
Mr. Himes. Yes.
Mr. Quaadman. As a matter of fact, I think you would want
to encourage them.
Mr. Himes. Yes. Yes, absolutely. So, I will follow up on
your offer for specific language, because this feels like a
solvable problem.
In the last 40 seconds I have here, let me just give
Professor Coffee an opportunity to reflect on the exchange we
just had.
Mr. Coffee. I think it has been ignored so far that the
Himes bill doesn't stand by itself. There can be no criminal
prosecution under the Securities and Exchange Act without
running it through Section 32a. And 32a requires for criminal
prosecution the mens rea level is willfully, your standards are
the standards for civil liability in your bill. But a criminal
prosecution would require that the prosecution show that you
willfully violated this rule and that means really a corrupt
purpose or intent.
A technical violation won't create criminal liability. So,
I do not think the mens rea problem is really any different
here than any other criminal prosecution all of which run
through Section 32a.
Mr. Himes. Thank you.
Mr. Quaadman, I am going to take you up on your offer first
on written suggestions on how to address whatever concerns you
have. And with that, I yield back.
Chairwoman Maloney. The gentleman from Arkansas, Mr. Hill,
is recognized for 5 minutes.
Mr. Hill. I thank the Chair. Thanks for holding this
hearing, and thanks for bringing this fine panel before us.
Could we put up my draft?
So, we have been talking today about public companies and
of course there are 50 percent fewer public companies than when
I graduated back in 1979 and went into corporate finance. And
this chart in the golden yellow line, it is 7,000 back in 2000.
It shows the last peak in public companies at the height of the
dot-com boom and small public offerings.
But it has been flat here since the financial crisis of
companies public and that is despite great efforts on a
bipartisan basis here to enact the JOBS Act legislation and we
have seen emerging growth companies. But we see this private
equity line in blue has continued since 2000 upward and upward.
Mr. Quaadman, I am curious--you talked about some of the
things, but I am curious if not only the cost of being public,
you talked about litigation cost. You talked about compliance
cost within a post-Sarbanes-Oxley environment. We have exempted
a lot of that burden through the emerging growth company
definition. We have moved the market cap size up.
And so, I am curious what else is contributing to companies
not going public, and I wonder if it is a consolidation in the
investment banking community where there are fewer companies
taking smaller companies public because they really--can't
really make a profit making a market in small and midcap
companies now as they could years ago.
So, has Reg NMS or some of the capital market systems
impacted the ability to go public?
Mr. Quaadman. So, yes, and I would also add some others
with that. First off, I would say with the private equity line
going up, it is important for us all to have vibrant private
markets too.
Mr. Hill. Right. This is not a criticism of private
capital, obviously.
Mr. Quaadman. No. No. We need to have both. I think you are
right Reg NMS, market structure issues which remain
unaddressed, even issues let us say with the Volcker Rule which
affect the ability for businesses go into the debt and equity
markets.
You have a combination of all those, then it starts to make
public capital that much more expensive versus private capital.
Mr. Hill. Right.
Mr. Quaadman. So, yes, you are correct. We have dealt with
so many disclosure issues and are dealing with some of them but
it is the cost of capital that is also driving this.
And that is why I mentioned the Chinese venture firms,
capital firms before, because they are also beginning to spend
a lot of money here in the United States and it is that
disparity in the cost of capital that is driving this.
Mr. Hill. Well, I think it is just something for all of us
on the committee to be concerned about. With the package of
capital formation bills that we call informally JOBS 3.0 that
we passed before the House last September, that Chairwoman
Waters and former Chairman Hensarling worked on together, would
they be at the margin beneficial to this?
Mr. Quaadman. I think they would be. As I said, incremental
steps forward. I think the two problems as we have been talking
about, liquidity in terms of the cost of capital as well as the
lack of research with smaller companies.
I think JOBS Act 3.0 start to take steps to help reverse
that trend. The other thing I would say with that chart when
you take a look at the public company side, when you see that
slight bump up and then the flattening, that is when the JOBS
Act came in.
So when you take a look and you even went back to 1996, the
number of public companies went down every year up until then.
So what we need to do and this is what the intent of JOBS Act
3.0 was to now to start to have the curve start to go back up
again rather than just being flat.
Mr. Hill. Right. Good. Thank you for your work on behalf of
the Chamber for that. I was reflecting on the arbitration bill,
and my view of arbitration having been subject to it and part
of it for 3 decades is that we have so many small owners and we
have 4,000 firms and 600,000 registered people, that this was a
way to speed access to a just award, and in my reading of the
statistic, about 43 percent, 44 percent of FINRA arbitration
claims result in a damage award to a consumer.
So it doesn't seem like it is tilted any way there, we have
public members of those panels, and class actions are exempted.
You are not eligible for arbitration if there is a class action
about a stock. So is this helping to lower cost for investors
and the investing public?
Mr. Quaadman. Arbitration helps lower the cost and it helps
for speedier awards. I would also say too when you take a look
at securities class action lawsuits, $50 billion is given to
the class action bar as a result of that.
That actually comes from the investors' pockets. I think
people don't actually make that connection. And even with the
FINRA arbitration awards, there is a significant number of
FINRA arbitration cases that are settled before they even go to
the arbitration process.
Mr. Hill. Thank you, and I yield back.
Chairwoman Maloney. Now the gentlewoman from Iowa, Mrs.
Axne, is recognized for 5 minutes.
Mrs. Axne. Thank you, Madam Chairwoman, and thank you to
the panel for being here today, I appreciate it.
I absolutely appreciate all of the proposals that we are
reviewing today, but I would like to focus a little bit more
attention on two of the bills regarding executive compensation.
As I am sure everyone here is aware, Wells Fargo's CEO just
announced his retirement. However, considering that despite all
of the scandals that we have seen, he made more than $50
million as a CEO, including $2 million in bonuses just 2 weeks
before he retired.
I think we should all be concerned about if his performance
was worth that pay. So my first question is this to the panel
members, this seems to me like exactly the problem with
investors and the public not having full disclosure about the
relationship between a company's performance and their CEO's
executive pay.
Professor Coffee in particular, considering that Dodd-Frank
was signed into law almost 9 years ago, and the rule was
proposed 4 years ago now, why has this process taken so long?
Mr. Coffee. The SEC has gone very slowly the last 2 years,
and you can speculate why, but it is not just the ratio of
performance to payment, it is the clawback rules, because there
are lots of reasons why there may be clawbacks yet from all the
senior management but there is no mechanism for enforcing it.
So I am very much agreeing with what you are saying, but I
would put a little bit more weight on clawback rights. If you
have been there when there has been a major restatement and
major scandal and you have had to pay it all back to the
government, I think your bonuses should be clawed back and that
can't happen without more rules than we have.
Mrs. Axne. Okay. I appreciate that. So Mr. Gregg, can you
talk about why it is important for the SEC to have these
commonsense rules for the clawback of improperly obtained
incentive compensation?
Mr. Gregg. Well, I think it is pretty simple, because there
are two important reasons. The first one is the link,
shareholders should be able to know what is the link between
performance and compensation.
Now, that is just simple information that they should know
so that they can judge for themselves if someone is actually
being compensated well or for a good job or poor job or if they
are being wildly compensated for no apparent reason.
And the second is transparency, that they have the right to
know this information. I will just put this out there that for
example last year from the compensation of Boeing executives,
part of the Form 14(a) said that one of the metrics for
executive compensation was reducing costs. So that is something
that I think shareholders would want to know, that reducing
costs is something that went into compensation of Boeing
executives given what is happening right now at Boeing.
Mrs. Axne. I appreciate that, thank you. Any other comments
on either of those questions from the group here?
Mr. Quaadman. Well, I would just say, first off in terms of
Wells Fargo, there are na umber of different investigations
that are going on that haven't been concluded yet.
Second, there haven't been allegations that Mr. Sloan has
necessarily done anything wrong as of yet. Furthermore, I would
say with the pay versus performance issue, it wouldn't actually
get to the issue that you are talking about because pay versus
performance on the SEC proposals actually dealt with total
shareholder return.
And I would actually say too, that is a misnomer because if
you take a look at a company that is in a bad way and they have
to go out and hire a new CEO, their TSR wouldn't look right.
But you know what, they are having to go out and hire the
talent to turn the company around.
So under the proposal the SEC proposed in 2015, before this
SEC, that was not a workable proposition, which is why we said
it should be a principles-based approach. I would also say too,
if you take a look at companies, you have say on pay votes, and
in almost every company, say on pay votes are passing by 80
percent or 90 percent from investors, in which case investors
are saying we have either the right person on board and we are
paying them what we should be paying, and investors have not
walked away from that.
Mrs. Axne. Ms. Lubin?
Ms. Lubin. I think these proposals are important because
they provide transparency to investors. They could understand
how executives are compensated, they could understand how much
risk an executive is willing to take to drive up the stock
price in order to make whatever bonus they are going to make
based on their compensation arrangements.
So it helps an investor understand, am I looking at a
company that is going to be steady, do what they need to do, or
am I looking at a company to invest in where they are going to
do something that is really risky in order to drive the price
up, so the CEO or someone else can get their bonuses.
Mrs. Axne. Yes. I appreciate that. I can tell you and Mr.
Quaadman, I can tell you as an investor that I certainly don't
feel that the information I need is very transparent to
certainly make any vote as an investor in any company. So,
thank you so much, and I yield back my time.
Chairwoman Maloney. The gentleman from Guam, Mr. San
Nicolas, is recognized for 5 minutes.
Mr. San Nicolas. Thank you, Madam Chairwoman. I first
wanted to discuss the slide that was up earlier because I had
some observations on it and those observations are based on me
actually being in the financial services industry as an
investment advisor with my series 7 and 66 licenses.
We had to weather two major occurrences that I think were
primarily responsible for the actual shifting down of the
number of companies that were public. We had the financial
crisis most recently and prior to that, we had the bursting of
the dot-com bubble. And if we pull up that slide, you can see
that both of those downdrafts were as a result of those two
crises.
And so we need to be very clear of the fact that if we are
going to be talking about what is impacting a number of public
companies in both of those instances, what impacted them the
most was recklessness, recklessness in the industry. And so Ms.
Lubin, I very much appreciate your recent comments about how
increased transparency to investors is a good thing.
Another thing that I think we need to take away from this
chart is the fact that while we do see an increase in the
private equity relative to public companies, we also need to
understand that a lot of the way small and medium-sized
companies are going public these days has changed. In the past,
they used to go public and hope that their business model
whether it was profitable or unprofitable, especially in the
dot-com bubble, they were hoping that was going to be
sufficient for them to raise public capital.
Today, a lot of companies are first relying on private
equity to be able to finance themselves during their growth
phases when the earnings are inconsistent and when they are
still trying to get their bearings on their business model. And
that is important to understand, because when we are talking
about going public as a company, you have to meet quarterly
targets.
You have to meet earnings expectations and you have to show
almost a continuous trend of growth otherwise your stock prices
are going to suffer. In private equity, you don't have that
kind of baggage. And so a lot of our small and medium-sized
companies that are under the private equity model right now are
still trying to work out their business models and smooth out
their earnings history so they can get to a place where they
can go public.
And while oftentimes, that is a cash-out event for a
private equity that is invested in those companies, it hasn't
turned out to be necessarily a bad thing, our markets at our
historic highs at this point. So perhaps the evolution of the
way companies go public has changed and it is not necessarily a
reflection of the market being overregulated.
I did have a concern with respect to the arbitration
component, having worked in the industry, and I wanted to post
this to Mr. Gregg and that is that while I can understand that
we want to always ensure that everybody has the ability to file
the lawsuits and the class actions, I also as an advisor and
also as a shareholder, I would receive notices from these law
firms that are just circling looking to file whatever class
action they could against a company and then try and settle
those class actions in order to just get their check and move
on.
And so I wanted to ask, while there is a strong case to be
made for allowing for class actions and for lawsuits and doing
away with arbitration, how much frivolous class actions and
frivolous lawsuits do you think might have been avoided with
arbitration being something that was in place? And perhaps
arbitration might not necessarily be a bad thing altogether,
perhaps it is just something that needs to be more tilted
towards balance for the consumer. So if you could provide some
insight into that please.
Mr. Gregg. Well, thank you for the question. I would say
number one, every person should have the opportunity to enter
into arbitration post-dispute. Knowledge is power. And so, if
you have a dispute and you then decide that this is the best
thing for you, you should be able to do that.
We are talking about pre-dispute, we are talking about the
fine print of your app so that you never even see that you are
being forced into it. So that would be number one. Number two
is to the question of litigiousness, our courts, the Supreme
Court has ascribed very high bar over the last few years in
order to get into court and stay in the court, the heightened
plead.
So it is very hard to, one, get into court; and two, stay
in the court. So I would respectively disagree on that claim
that there would be a lot of litigation, because our courts are
dealing with that and the Supreme Court has already dealt with
that in terms of our pleading standards.
Mr. San Nicolas. The bar may be set higher, but that is the
bar to get into court. Just the mess of having to go through
the process of getting there and dealing with the challenge and
the acquisition and the reputation risk and public scrutiny,
those all incur cost to a company that they all sit down and
they factor based on what decision they are going to make with
respect to whether they are going to just settle the suit or
move forward and actually climb over that high bar.
And so I just wanted to have the dialogue because it is
something that I am trying to reconcile given my experience.
Thank you, Madam Chairwoman.
Chairwoman Maloney. The gentleman from Illinois, Mr.
Casten, is recognized for 5 minutes.
Mr. Casten. Thank you, Madam Chairwoman. Thank you all for
being here. I am going to try to be a little bit scattershot
and hit hopefully all of you here before this is done. I want
to start with some questions about my friend, Congressman
Foster's, bill.
Professor Coffee, in your opinion, what impact would
permitting forced arbitration classes and corporate documents
and IPO documents have on an investor's ability to recover
damages for securities fraud?
Mr. Coffee. In my view, investors will not exercise that.
People have pointed earlier to FINRA arbitration, I think I am
the only person in the room who has been a FINRA arbitrator and
I think it does work, but that is against the broker and that
is being run by basically a government-sponsored organization,
FINRA.
If you just put this in a corporate charter, there is no
one there to establish the mechanism and make it fair. And what
happens with most arbitration procedures is that the consumer,
or here, the shareholder, never exercises arbitration, and
neither wins nor loses, just doesn't try it, and I think that
is likely to be the most probable consequence of putting it in
to the corporate charter. Well, I will turn it to--
Mr. Casten. Thank you. My second question is for Mr. Gregg.
I have negotiated far too many contracts in my prior career
outsourcing energy assets in the industrial space, and we often
included either mandatory arbitration provisions or waiver of
jury trial provisions, and we did that between two very
sophisticated, heavily lawyered-up companies.
I note that in Mr. Foster's bill, he provides the option
for investors to choose to select arbitration or not. In your
view and if there is no black and white line, that is a fine
answer, are there conditions where you think it is appropriate
to defer to mandatory arbitration? Do you think it is always
negative? Are there conditions where you think it is
appropriate to have volunteer choices? Or do you think we
should stay as we are right now?
Mr. Gregg. Well, we definitely shouldn't stay where we are
right now. I think it is important. So the SEC has said that
their longstanding policy is it is contrary to the Federal
securities laws, to force people into arbitration at least in
the cross section context.
But what we are seeing is a push by corporate entities,
very hard, to try to get the SEC to change their longstanding
policy. So I believe it is important for this body to say
unequivocally that they are protecting investors.
Again, if people want to go into arbitration after an
event, after a dispute, that is fine. The point is, what we
have right now is people being forced into a system that they
know really nothing about. In a nursing home, when you are
seeking employment you get 10, 15 documents and they say,
``Sign here, here, here.'' And you have no idea that there you
are being forced into something until there is a problem. You
have been discriminated against. There is wage theft.
So, first and foremost, it is about transparency and
ensuring that every person understands what they are entering
into.
Mr. Casten. Okay. Thank you. My question is for Ms. Lubin.
There has been a lot of discussion here today about what to
make of this decline in public company listings, and I think
the implication that several have raised is that this says
something about the regulatory burden of going public.
I would ask unanimous consent to enter into the record a
Harvard law article from May 2017, looking behind the declining
number of public companies and I want to specifically just call
out three things from the article. They note, number one, that
there are more foreign companies doing cross-border listings
than ever before.
Number two, there is a significant decline in delistings in
public markets in recent years, and number three, they
described, ``The growth in alternative financing methods has
extended the private financing stage of the investments,'' and
they conclude that, ``The trend towards IPOs of higher quality
more sustainable companies is likely to benefit investors.''
So essentially what they are saying is, yes, there are
fewer companies listed, but we have between private equity,
master limited partnerships, all these vehicles that have
emerged, we just have a more diverse financial environment than
we used to and that that is the result of it.
Now, these are two pretty different views. There is one
view that says that the decline in IPOs is because of
regulatory burden, that hurts investors, there is another view
that says investors are actually better off because we have
more stable companies, they are not delisting. and more
options. Do you have an opinion on which of those two extremes
is closer to the truth?
Ms. Lubin. Thanks for the question. In all the years I have
been looking at these things, and I have been looking at them
for a lot of years, there has been a decline in IPOs but there
has been an increase in all the other mechanisms before
somebody wants to go public and I think it has served investors
well.
In the early stages, venture capital stages, private
placements, things like that, it is a much riskier stage and
isn't really the kind of thing most advisors would advise a
Main Street investor to jump into. So it is appropriate for
those things to stay private and then when they really are
matured, then go public and then subject the Main Street
investor's moneys to those kinds of offerings.
Mr. Casten. Okay. And I had a question for you, Mr.
Quaadman, but I believe I am out of time.
Chairwoman Maloney. Thank you. And now the gentlewoman from
New York, Ms. Ocasio-Cortez, is recognized for 5 minutes.
Ms. Ocasio-Cortez. Thank you. Thank you very much, Madam
Chairwoman. I would like to seek unanimous consent to submit to
the record a New York Times reporting on arbitration entitled,
``Arbitration Everywhere Stacking the Deck of Justice.''
What we are seeing here and I am interested in the
interplay between everyday people, everyday consumers and
arbitration clauses. The arbitration clauses that are tucked in
everywhere from whenever you sign a credit card or a debit card
says here even in the report on page five of a credit card
contract used by American Express beneath and explain on
interest rates and late fees passed the details about annual
membership is a clause that most consumers probably miss.
It says that the company may, ``elect to resolve any claim
by individual arbitration.'' Now, a lot of folks, to just
clarify for the general public what an arbitration clause is,
arbitration clauses have been used--would you say, Mr. Gregg,
that arbitration clauses have been used to circumvent the
courts on a wide range of issues?
Mr. Gregg. Correct.
Ms. Ocasio-Cortez. Like potential misconduct?
Mr. Gregg. Yes. So, it is used against workers when it
relates to sexual harassment or discrimination, wage theft, it
is used in the consumer context when you have a dispute over
your credit card or student loan.
Ms. Ocasio-Cortez. So, if you are a company and you tuck
this clause into virtually anything that you can make an
employee or a consumer sign, whether it is a credit card
agreement, whether it is an employment contract, you can
essentially absolve yourself from almost any form of corporate
misconduct, is that correct?
Mr. Gregg. That is correct. That is what will happen.
Ms. Ocasio-Cortez. I find this extremely concerning, that
you can almost before misconduct happens already waive your
right to seek justice in court. And in fact, William G. Young,
a Federal Judge in Boston who was appointed by President Reagan
said, ominously, ``Business has a good chance of opting out of
the legal system altogether and misbehaving without reproach.''
Would you agree with that, Ms. Lubin?
Ms. Lubin. Thank you for the question. I think the way that
pre-dispute arbitration clauses have developed in the brokerage
business, that is what has happened.
Ms. Ocasio-Cortez. Thank you. I'm sorry, I just have to
reclaim my time very quickly, but thank you. So, you would
agree?
Ms. Lubin. Yes.
Ms. Ocasio-Cortez. Mr. Gregg, I am interested here in the
wider impact. We are talking about not just issues of
discrimination and work reviews, but even on a macro level or
potentially macroeconomic level. In fact, a Federal Court now
is allowing a lawsuit by Exxon investors to move forward.
Investors claim that Exxon knew and kept secret for years
internal reports showing that they knew that climate change was
real and that the fossil fuels and their role in producing
fossil fuels contributes to the role of climate change, yet
they undertook a misinformation campaign to hide those internal
findings and reports including lying to their own shareholders.
Mr. Gregg, are you familiar with this lawsuit at all?
Mr. Gregg. I am.
Ms. Ocasio-Cortez. So, I have a question here, if we do
nothing about forced arbitration and allow this practice to
continue, could this mean that information about how companies
are deceiving the public about issues like climate change or
any other could remain hidden from the public and public
scrutiny?
Mr. Gregg. It could if we don't pass the--currently,
shareholders are allowed to go together, to band together in a
class action but there are attempts to stop that so that is why
it is important to pass laws to protect.
Ms. Ocasio-Cortez. So, you would recommend that we support
the legislation that we are entertaining today on investor
protection to make sure that shareholders can be protected as
well?
Mr. Gregg. I would, because if we don't do that and the SEC
reverses this policy, for example, then the systemic issues
would be able to be hidden and you would never be able to find
out about these things.
Ms. Ocasio-Cortez. And even on a macroeconomic level,
beyond the justice of it, beyond making sure that shareholders
who have been damaged by this deception and misconduct can
recoup their costs via class actions, do you think that this
has overall consequences for market integrity, so much of our
macroeconomic, and to make sure that we have a sound market
depends on us trading on the truth.
And if forced arbitration can prevent the public from
knowing the truth about issues, it means that the values of
many different industries could be manipulated and seen as more
valuable than they are. Would you agree with that?
Mr. Gregg. I would agree.
Ms. Ocasio-Cortez. Thank you very much.
Chairwoman Maloney. The gentleman from Illinois, Mr.
Foster, is recognized for 5 minutes.
Mr. Foster. Thank you, Madam Chairwoman, and thank you to
our panel.
Mr. Gregg, as you note, some commentators have argued that
public companies should be allowed to insert forced arbitration
clauses in their bylaws, which would obviously prevent
shareholders from suing the company in Federal Court for
violations of the security laws including securities fraud.
It would also prevent shareholders from bringing class
action suits against the company for securities fraud. Firt,
can you just tell us in general terms why it is important for
shareholders to be able to join class action lawsuits against
public companies? And second, could you give some examples of
class action lawsuits for securities fraud that have been
successful for shareholders?
Mr. Gregg. So, on your first question, it is important for
two reasons. The first is that, as Professor Coffee said,
people are not going to go into it alone, they just won't. They
don't understand the process. They sometimes won't receive any
help because attorneys won't be able to represent them, because
if you are cheated out of $100 or $200, that is a lot of money,
but it is still not enough to hire a lawyer to go to court. So,
you are just going to let it go. You will be angry, but you
will let it go.
Then number two, especially in the securities context, this
is hard, this is hard stuff. And being able to prove a material
misstatement, intent to deceive, economic loss and causation,
it is not something that: number one, you could do by yourself;
and number two, oftentimes it is something for which you will
need help from experts and potentially forensic accountants.
So, this is not something that you can do on your own.
And then to your second question, as I mentioned earlier,
WorldCom, Tyco, Enron, these were significant returns for
cheated investors.
Mr. Foster. Could you say a little bit about the relative
effectiveness of arbitration versus a court proceeding as a
deterrent, both because the difference in how the results may
end up being public as well as the ultimate result?
Mr. Gregg. Well, that's a good question, and one thing that
I do mention in my testimony is if something is in arbitration,
there are two things here. If it is in arbitration, number one,
we are not able to follow the, I mean, we won't know the
development of the law. There will be no development of the law
because arbitrations aren't bound by the law. So, especially in
the securities context, this would be particularly harmful if
we don't have development of the law.
And then, number two, since so much of this is secretive,
and a lot of times there are gag clauses, someone can be
suffering the same harm in the next office, the next cubicle,
next door, and they will never know because you are prevented
from even talking about it.
Mr. Foster. Right. And so, the crime could be committed by
your neighbor, they could be appropriately punished for that
crime and you would never know about it, and so you wouldn't be
aware and avoid that behavior yourself.
Ms. Lubin, can you tell us why it is important that Main
Street investors have the right to bring a private enforcement
action if we have public enforcement by Federal agencies?
Ms. Lubin. Thank you for the question. I could say as a
regulator for my entire career, we can't be everywhere. In a
lot of ways it is like being a mom, it takes a village and you
need a lot of people to keep an eye on what is going on.
So, you want the regulators, but the regulators, we have
our regulatory interest in stopping bad behavior and moving on
to another case, and that doesn't always involve restitution.
If you look at the numbers that the SEC has recovered through
Fair Fund actions, they pale in comparison to what has been
recovered for investors through private actions.
So it is really a three-legged stool: it is the SEC; it is
the State securities regulators; and it is private enforcement.
And we have to make sure that private enforcement has the
option of going to court, going to arbitration, and let
investors decide.
It really depends on the nature of the case for a customer
to decide with their attorney which form do they want to
select, that they shouldn't be locked in, in the beginning, to
having to only go to arbitration.
Mr. Foster. Right. And this issue of having the choice, the
name of the bill, if, for example, you are very interested in
getting a rapid resolution of your case and you believe that
arbitration will be faster, you have that choice under this
legislation. I think that is a very fundamental point to be
made here.
Ms. Lubin. I agree. It is important that they have the
choice and frankly, I have seen a lot of cases that lawyers
don't want to go near, that somebody could probably have gone
into small claims court if they didn't sign a pre-dispute
arbitration clause in their customer agreement.
In that way, that is inexpensive. You could do it yourself.
Sometimes they are very clear cut cases. And it gets resolved
very quickly.
Mr. Foster. Thank you. I am basically out of time here. I
yield back.
Mr. Casten [presiding]. The gentleman from Ohio, Mr.
Davidson, is recognized for 5 minutes.
Mr. Davidson. Thank you. Thank you all for your thoughtful
comments on this. And Mr. Quaadman, as I was looking through
your remarks and things that you highlighted about the decline
in IPOs, things that you highlighted about how accredited
investors have benefited I would say disproportionately from
the tech bubble, the tech craze and the things that haven't
proved to be bubbles at all that have been enduring, whether it
has been on the way up knowing, when to get down, knowing how
to participate.
And I think about the nature of an accredited investor.
This is someone who is already wealthy, so the criteria isn't
knowledge. The criteria is the possession of wealth, primarily.
And so as I listen to colleagues repeatedly talk about the
giant gap in income, in inequality, I think back to the fall.
In September, we hosted a roundtable for the ICO market,
how do we deal with the right way to regulate what has been
abusive, has been fraudulent, has been asymmetry of information
at times in the ICO market. But what is dying for lack of
regulatory certainty. And we heard from investors who were at
the top of the food chain on skill, knowledge, and wealth,
venture firms like Andreessen Horowitz.
But we heard from early stage venture folks and one of them
pulled me to the side and he said, ``Why do Republicans lock
out regular people like me from deals? Why do they protect
their rich investor buddies?''
And they were referring to the accredited investor rules.
So this person who is a political novice is just trying to be
part of an early stage company, writing code for a program,
fand rustrated with the fact that he couldn't participate.
Although he helped write the code for it, he doesn't meet
the accredited investor rules. And his perception was that the
rich Republicans were doing stuff for their rich Wall Street
buddies. And I tried to explain it. This is actually
counterintuitive, democratic access to capital like so many
other things that are out there in the false narrative is
actually a Republican idea. The idea that markets are for
everyone, not just the special people.
And he was shocked. He said that this starts to chip away
at his world view. And I said, `Iif you look at a number of
other issues, you will probably conclude the same thing. I am
certain you and I will not agree on all things.''
But that is one that is there. Could you comment about how
accredited investors have been the disproportionate
beneficiaries of our current structure?
Mr. Quaadman. Sure. So, number one, just to make a point
that was made earlier about the decline in IPOs, the decline in
the number of public companies actually started in 1996, 4
years before the tech bubble burst.
But to your point, and there was an earlier discussion here
and they were discussed, when there was a discussion about all
of these different vehicles, there were vehicles that were only
accredited investors could use, right?
And we have very specific income and asset levels of which
people can invest in, and what we effectively have done over
the last 20 years is just start to create a closed system where
the accredited investors get the benefits of certain deals,
whatever, and that the retail investor is not able to access
that, which is why I was talking earlier about the decline or
disappearance of the smaller IPO.
Now, one of the things that the JOBS Act 3.0 did last year
was actually start to modify some of the definitions of the
accredited investor rules where you actually start to allow for
certain levels of education and experience, expertise that they
can start to maybe avail themselves to some of that which I
think is one way to start to solve some of it, but we do need
to also deal with the other macro issues as well to help the
retail investors.
Mr. Davidson. Yes. Thank you for that and thanks for the
expertise you have lent to it. Congressman French Hill has
certainly been a champion for that on our side of the aisle,
and Congressman David Schweikert, who is now on the Ways and
Means Committee.
And we would love to have a collaborative nonpartisan way
to make sure that all Americans have access to our capital
markets, I mean, really, historically that is a big part of why
capital has flourished in the United States.
And unfortunately, you do see this concentration of wealth
in hedge funds and the narrative of ideologies, not monolithic.
There are folks with all political persuasions, but the reality
is there are Main Street investors, people with retirement
funds, pension funds, who are being locked out of access to
these deals.
And I think it is an incredibly important reform that we
need to get done to make sure that our markets function.
Absolutely protect consumers, full disclosure, but full
democratic access to capital. My time has expired, and I yield
back.
Mr. Casten. The gentlewoman from California, Ms. Porter, is
recognized for 5 minutes.
Ms. Porter. Mr. Quaadman, I have noticed that the U.S.
Chamber of Commerce is fairly active and, in fact, is quite
active with litigation. It has an entire center devoted to
litigation and the Chamber sues the government on a regular
basis, 5 times in the last 30 days alone it has filed suits in
the U.S. courts.
In all of the cases that the Chamber has brought, are you
aware of any in which the Chamber has appeared before
arbitration panels?
Mr. Quaadman. I would have to check with our litigation
center on that. I am not aware of that, but I would have to
check with them.
But let me also say too, with the cases that we do file, we
are following what the law allows us to do and we tend to win.
Ms. Porter. You tend to win in court.
Mr. Quaadman. Yes. But as I said, I don't know--
Ms. Porter. Because that is where you choose to file as
plaintiff.
Mr. Quaadman. That is where the law allows us to file.
Ms. Porter. Okay.
Mr. Quaadman. But we are suing the government. I don't know
of any instance under the sovereignty laws if the government
actually allows for arbitration in cases where there is a
dispute with the government.
Ms. Porter. Correct, but the Chamber is also an intervener
in private plaintiff suits. So, my question is--
Mr. Quaadman. I don't know. I would have to check with the
litigation center. I don't know if we are an intervener in
private plaintiff suits. We actually sue the government.
Ms. Porter. Okay, but my question is--
Mr. Quaadman. It doesn't allow arbitration.
Ms. Porter. Correct. Why do you think that is?
Mr. Quaadman. Why the government doesn't allow for
arbitration? I don't know. I would have to check the history on
that.
Ms. Porter. When the Chamber sues the government, does it
expect the judges to follow the law?
Mr. Quaadman. Of course.
Ms. Porter. Do people who have their grievances heard in
arbitration, can they count on the arbitrator to follow the
law?
Mr. Quaadman. An arbitrator is supposed to be fair. If an
arbitrator is not fair, there are--
Ms. Porter. I am just asking, can they count on the
arbitrator to follow the law?
Mr. Quaadman. They should, and if they are not, they can go
to court to actually overturn the award and actually take the
arbitrator off the case.
Ms. Porter. Mr. Gregg, would you like to respond to that?
Mr. Gregg. I respectfully disagree. There is no requirement
to follow law or precedent. And in fact, the requirements for
appeal are very, very limited. In fact, Justice Kagan said that
in several Supreme Court cases and simply getting it wrong, the
Supreme Court has said, is not enough.
Ms. Porter. Is not enough. Mr. Quaadman, do you think that
the development of law is important to--and certainty of law is
important to allowing companies to make decisions about their
capital structure?
Mr. Quaadman. I would say in terms of the capital structure
for the company and for the capital markets, you know, the
companies are going to follow what Congress dictates, what the
SEC is coming out with in terms of rules.
Ms. Porter. Let me ask it another way.
Mr. Quaadman. Yes.
Ms. Porter. Is legal uncertainty, is uncertainty about the
legal standard positive for the business community?
Mr. Quaadman. Well, I think we are talking about apples and
oranges here, because legal uncertainty does create problems
and it creates problems not only for businesses, it creates
problem for consumers as well. But I would say with
arbitration, arbitration allows for a speedy redress of
grievances and as talked about earlier with the FINRA
arbitration process, number one, there is a fairly high rate of
where investors are winning their cases. And there is also a
very high rate where there are settlements of cases before it
even goes to the arbitrator, and that is much faster than when,
if this was just allowed to go to court.
Ms. Porter. Mr. Gregg, would you like to respond?
Mr. Gregg. I would. One significant problem is
uncompensated awards in FINRA. In fact, Senator Warren and
Senator Kennedy introduced a bill last Congress to help people
who were in FINRA actually get the awards that they never have
gotten.
Ms. Porter. I yield back the remainder of my time.
Mr. Casten. The gentleman from Texas, Mr. Green, the Chair
of our Subcommittee on Oversight and Investigations, is
recognized for 5 minutes.
Mr. Green. Thank you very much, Mr. Chairman. And I thank
the subcommittee for allowing me to interlope today. I am not a
part of this subcommittee, but I am very much concerned about
the ruling of the Supreme Court in 2018 in a case styled,
Digital Realty Trust, Inc. v. Somers. In that case, the court
held that the protections against retaliation in Section 922 of
Dodd-Frank are applicable to persons who report these egregious
offenses to their employers.
This hearing affords us an opportunity to rectify and to
adjust the law such that justice can prevail. It is my belief
that we should allow these protections for those who report to
their employers. So let me start if I may with a lawyer par
excellence, Mr. Gregg, you are considered a strategic thinker.
Can you kindly tell me at this time, what do you think about
this legislation that we have proposed and the Supreme Court's
decision to a very limited extent, because I do have a second
question?
Mr. Gregg. Thank you for the question, Congressman. We do
support the legislation. The Supreme Court actually got it
right. The language is very clear in the statute and that is
why Congress must act, and that is why Senator Grassley, for
example, in his amicus brief in Digital Realty basically said
the same thing that you are saying. There are a lot of
protections in the Dodd-Frank law for anti-retaliation that are
not in Sarbanes-Oxley, and that is why we need to have this
law.
Mr. Green. Ms. Lubin, if I may, you have a reputation for
justice and fairness, so give me your thoughts if you would,
please, on whether this would, if not implemented, have an
adverse impact on reporting by employees?
Ms. Lubin. Thank you for the question and for the
compliment. I think it would have a very adverse effect because
it is a chilling effect. The employees are not going to come
forward when they are faced with a balance, am I going to lose
my job or am I going to try and fix what is going on in the
company because they will figure whatever is wrong is somebody
else's problem.
So there won't be reporting--the companies won't have the
opportunity to fix it before it becomes a very big deal which
is something that will be lost if the whistleblower so to speak
doesn't know that they are going, that they will be protected
if they go ahead and tell management that something adverse is
going on. So I think it is very important that we, that the
legislation encompasses taking care of employees if they
whistleblow internally or not just to the SEC.
Mr. Green. Thank you very much. Professor Coffee, thank you
for your service and for being here today. I thank all the
witnesses for being here today. I may not get to question all
of you, but I do thank you for coming. I am interested in your
commentary on this.
Mr. Coffee. I think it is imperative that Congress reverse
Digital Realty. It was probably correct on that statutory
structure, but this is not a constitutional decision. The
statute didn't recognize how this could get in effect get
reversed. And actually, the irony here is that most of the
business community wants employees to report internally, and
because of this decision, employees represented by counsel will
never report internally. It is probably better if you have
protection from, full protection under Dodd-Frank, that you go
first to the company because things can get worked out cheaply,
easily, and effectively.
So we have come up with an outcome here that injures
employees and does not benefit corporations because
corporations find that they will no longer get any internal
reporting. No one wins under this outcome, and thus I think it
is imperative that Congress reverse it.
Mr. Green. Thank you. And if I may, I will thank all of my
colleagues who have indicated that they will be supportive of
this legislation. It is my hope that we will get it passed. And
Mr. Chairman, I yield back the balance of my time.
Mr. Casten. I have a minor piece of housekeeping. Without
objection, I ask unanimous consent that the article that I
submitted when I was not sitting in this chair, be entered into
the record. Without objection, it is so ordered.
And I want to recognize the ranking member, whom I
understand has some documents to submit as well.
Mr. Huizenga. Thank you, Mr. Chairman. Yes, and without
objection, I would like to submit a testimony from the
Securities Industry and Financial Markets Association, SIFMA,
as well a letter from the Small Business and Entrepreneurship
Council.
Mr. Casten. Without objection, it is so ordered.
And before we wrap up, I would like to take care of one
other administrative matter. Without objection, I would like to
submit letters and statements for the record from the American
Association for Justice and the Public Investors Arbitration
Bar Association.
Without objection, it is so ordered.
I would like to very much thank our witnesses for their
testimony and their time today.
The Chair notes that some Members may have additional
questions for this panel, which they may wish to submit in
writing. Without objection, the hearing record will remain open
for 5 legislative days for Members to submit written questions
to these witnesses and to place their responses in the record.
Also, without objection, Members will have 5 legislative days
to submit extraneous materials to the Chair for inclusion in
the record.
And this hearing is now adjourned.
[Whereupon, at 4:16 p.m., the hearing was adjourned.]
A P P E N D I X
April 3, 2019
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