Business Law

Fairness Standard and Business Judgment Rule

Fairness standard for directors…

Fairness Standard and Business Judgment Rule

The business judgment rule is a rebuttable, procedural presumption that a corporate director has acted on an informed basis in good faith and in the honest belief that the action taken was in the best interest of the company. When a plaintiff’s evidence is sufficient to rebut the presumption that the director did not act in good faith to further legitimate corporate objectives and purposes, the burden of proof shifts to the director to prove that the business decision or transaction was proper, fair, and reasonable to the corporation. Burden shifting does not create per se liability on the part of the director. Burden shifting is a procedure by which courts “determine under what standard of review the director’s liability is to be judged.”

An honest belief in the fairness of the decision or transaction is insufficient to invoke the protections of the business judgment rule. The court must consider the conduct that allowed the presumption to be rebutted. In addition, the court must consider all relevant facts and circumstances in determining whether the director breached any one of the fiduciary duties of good faith, due care, and loyalty in regards to the challenged business decision or transaction. The determination that a director has not demonstrated entire fairness can support a finding of substantive liability. It should be noted that the plaintiff has the ultimate burden of persuasion in showing a breach of fiduciary duties.

The fairness standard frequently arises in situations where a director is involved in both sides of a transaction or obtains a benefit that is not available or is detrimental to the shareholders. The concept of fairness has two components: fair dealing and fair price. As a Delaware court stated, fair dealing goes to “when the transaction was timed, how it was initiated, structured, negotiated, disclosed to the directors, and how the approvals of the directors and the stockholders were obtained.” Where fair price is at issue, financial and economic considerations of the challenged transactions are considered along with other relevant factors that affect the value of the corporate stock. A director must be committed to obtaining the highest value that is reasonably available to the stockholders under the circumstances.


Federal Trade Commission Competition and Consumer Protection Authority

The U.S. Federal Trade Commission is given broad authority in the areas of competition and consumer protection law by Section 5 of the Federal Trade Commission Act, 15 U.S.C.S. § 45. Section 5 declares unlawful any “[u]nfair methods of competition in or affecting commerce, and unfair or deceptive acts or practices in or affecting commerce,” and Section 5 gives the Commission authority to prevent use of unfair methods of competition and deceptive acts or practices.

Federal Trade Commission Competition and Consumer Protection Authority

The U.S. Federal Trade Commission is given broad authority in the areas of competition and consumer protection law by Section 5 of the Federal Trade Commission Act, 15 U.S.C.S. § 45. Section 5 declares unlawful any “[u]nfair methods of competition in or affecting commerce, and unfair or deceptive acts or practices in or affecting commerce,” and Section 5 gives the Commission authority to prevent use of unfair methods of competition and deceptive acts or practices.

Competition Authority

No statutory definition is provided for “unfair methods of competition.” Case law suggests that antitrust laws such as the Sherman Act and the Clayton Act provide basic policies against practices such as price-fixing, monopolization, or anticompetitive mergers that may outline the meaning of unfair methods of competition.

However, the courts have held that the term “unfair methods of competition” covers more than the activities outlawed by other antitrust laws. Courts have stated that Section 5 is designed to allow for case-by-case development of competition law that responds to evolving business practices while having policies of other antitrust laws serve as a foundation. Decisional law thus provides that Section 5 authorizes the Commission to halt business practices likely to have anticompetitive effect even before those business practices develop into violations of other antitrust laws.

Consumer Protection Authority

The phrase “unfair or deceptive acts or practices” in Section 5 also is not defined in the statute. Under this authority, the Commission may seek a halt to a broad and evolving variety of business practices that may deceive consumers or may tend to treat consumers unfairly. Consumer deception and consumer unfairness have been treated as separate concepts by the courts and the Commission although any particular act or practice may be found both unfair and deceptive.

The Commission has determined that practices such as misleading health food claims, unsubstantiated product performance claims, untrue price claims, and failures to disclose material facts are “deceptive” and violate Section 5. According to a Commission policy release, a representation, omission, or practice with the following elements will be considered deceptive:

  • A likelihood to mislead a consumer (although actual deception need not be shown);
  • Characteristics considered objectionable to a consumer acting reasonably under the circumstances; and
  • Reliance by consumers on the representation, omission, or practice that indicates materiality of the representation, omission, or practice.

Unfairness also has been described in a policy release by the Commission. Practices considered unfair and in violation of Section 5 have included selling through inducements that suggest gambling, product claims made without a reasonable basis, and advertising to induce children to behave dangerously. The Commission’s policy release stated that a practice may be considered unfair within the meaning of Section 5 if injury to consumers may be expected, public policy is violated, or the practice is unethical or unscrupulous. Injury to consumers must be substantial, reasonably unavoidable by the consumers, and more significant than asserted benefits of the practice to consumers or competition.


Section 31 or SEC Transaction Fees

Under Section 31 of the Securities Exchange Act of 1934, 15 U.S.C.S. § 78ee, the Securities and Exchange Commission recovers costs of regulating securities markets and transactions. Section 31 fees, which exceeded $1 billion in 2004, are “designed to recover the costs to the Government of the supervision and regulation of securities markets and securities professionals, and costs related to such supervision and regulation, including enforcement activities, policy and rulemaking activities, administration, legal services, and international regulatory activities.” 15 U.S.C.S. § 78ee(a).

Section 31 or SEC Transaction Fees

Under Section 31 of the Securities Exchange Act of 1934, 15 U.S.C.S. ? 78ee, the Securities and Exchange Commission recovers costs of regulating securities markets and transactions. Section 31 fees, which exceeded $1 billion in 2004, are “designed to recover the costs to the Government of the supervision and regulation of securities markets and securities professionals, and costs related to such supervision and regulation, including enforcement activities, policy and rulemaking activities, administration, legal services, and international regulatory activities.” 15 U.S.C.S. ? 78ee(a).

Section 31 fees are imposed by the Securities and Exchange Commission on self-regulatory organizations such as the national stock exchanges and NASDAQ based on the aggregate dollar amount of sales of securities through the exchanges. While the fees are not charged by the Commission to investors, the self-regulatory organizations typically pass the charges on to their broker-dealer members, who in turn pass the charges on to their investor customers. It has been determined in judicial decisions that whether the charges are considered a fee or a tax, the charges may be passed on by the self-regulatory organizations. It also has been decided that there is no private right of action for investors provided in Section 31 to contest the legality of the fees being passed on by those organizations.

The Commission is obligated to review annually (and in some instances semi-annually) the rate at which transaction fees are imposed on self-regulatory organizations so that the amount of funding needed to cover the expense of government regulation of the securities industry is matched to the sums raised by the fees. Thus, as the total dollar volume of transactions anticipated by the Commission rises, the transaction fee will decline, and as the volume of transactions declines, the transaction fee will rise.

Section 31 also requires imposition of fees on transactions in securities futures. However, such charges are termed assessments rather than fees. Assessments are charged per “round turn” transaction or combined purchase and sale of a futures contract. Unlike fees, assessment charges are not adjusted periodically to account for projected market volume.


Securities Law> Additional Offerings, Disclosure & the Securities Exchange Act of 1934> Issuer Reports & Recordkeeping

Fair Disclosure Requirements for Public Companies…

Securities Law> Additional Offerings, Disclosure & the Securities Exchange Act of 1934> Issuer Reports & Recordkeeping

Fair Disclosure Requirements for Public Companies

Regulation FD, adopted by the Securities and Exchange Commission in August 2000, provides that publicly traded companies must not make selective disclosures of material non-public information to securities analysts without making that same information available to the public generally. Whenever an issuer of securities or someone acting on the issuer’s behalf intentionally discloses material information to persons described in the four rules in Regulation FD, the information must be released simultaneously to the public. If material information is released inadvertently, the information must then be disclosed promptly to the public.

  • Companies that have issued securities registered with the Securities and Exchange Commission under Section 12 of the Securities Exchange Act of 1934,
  • Companies required under Section 15(d) of the Securities Exchange Act to file reports with the Commission, and
  • Closed-end investment companies (companies that are similar to mutual funds in investment strategy but have non-redeemable shares traded on exchanges).

Regulation FD does not apply to investment companies that are not closed-end or to foreign companies and governments.

Not all material non-public information about a publicly traded company must be made public if the information is selectively disclosed. Only information disclosed by persons acting for the company such as directors, officers, and employees with public relations or stockholder relationship responsibilities must be publicly disclosed and then only if the material information was disclosed to those who reasonably would be expected to trade on the information, including persons such as securities dealers, investment advisers, and stockholders.

Regulation FD also does not apply to information disclosed to persons such as attorneys, accountants, and investment bankers who owe a fiduciary duty to the company to maintain confidentiality of the information. Similarly, Regulation FD does not apply to information disclosed to persons who agree to keep the information confidential and who are subject to insider trading prohibitions if they make use of the information for their own benefit.

Rapid dissemination to the public is required for unintentional disclosure of material information. Regulation FD requires public disclosure of unintentionally disclosed material information “promptly” or as soon as reasonably practicable, prior to the next trading day of the company’s securities, and not later than 24 hours after an officer of the company learns of the unintentional disclosure.

Public disclosure must be designed to provide wide distribution of the information to the public. Filing of a Form 8-K with the Securities and Exchange Commission to provide the information may be considered adequate public disclosure.


Securities Transfer Agents

Transfer agents track the owners of securities. They also perform several other services for companies with registered and publicly traded securities in the course of tracking the owners of the securities. Transfer agents usually are banks or trust companies, although a company with publicly traded securities may perform transfer agent functions for its own securities.

Securities Transfer Agents

Transfer agents track the owners of securities. They also perform several other services for companies with registered and publicly traded securities in the course of tracking the owners of the securities. Transfer agents usually are banks or trust companies, although a company with publicly traded securities may perform transfer agent functions for its own securities. Functions of transfer agents include:

  • Tracking company ownership — Transfer agents issue certificates evidencing securities of a company and cancel those certificates if the underlying ownership is transferred to another person or entity. Transfer agents track ownership of the securities by keeping records of what certificates have been issued or transferred and what securities are held in street name by a brokerage or in book-entry form by the company.
  • Determining loss or destruction of certificates of ownership of company securities and replacing those certificates upon receipt of a guaranteed signature of the true owner of the securities.
  • Serving as company intermediaries — Transfer agents may be a company’s paying agent responsible for distribution of dividends and interest payments to stockholders and bondholders of a company. Transfer agents also may serve in the following additional agency capacities:
  • Proxy agents responsible for sending out proxy materials and reporting results;
  • Exchange agents that in a merger are responsible for exchanging stocks or bonds;
  • Tender agents that tender shares in response to a tender offer; and
  • Mailing agents responsible for mailing out annual reports and other communications to owners of company securities.