Last month, the SEC released a report on Mandatory Arbitration Among SEC-Registered Advisers.  The report tackles a basic dispute resolution problem.  For context, investors with a problem with a financial adviser will likely have to go to arbitration.  If their financial adviser is an associated person for a FINRA-registered brokerage firm, the dispute will likely go through FINRA arbitration.  While the FINRA system isn’t perfect, it’s often much better than any other alternative out there.  FINRA has made improvements to its arbitration process over the years resulting in a forum that has become fairer for investors.

But many financial advisers are not brokers.  They are registered investment advisers.  They usually charge fees on an assets under management basis.  Where do disputes against these RIA firms go?  It depends on what kind of pre-dispute arbitration agreement exists between the adviser and the investor.  The SEC report details the current options available to investors.

Here’s the short version, far too many RIAs have put in place arbitration agreements that effectively frustrate an investor’s ability to resolve a complaint.  Most of these agreements force investors to resolve their disputes through AAA–the American Arbitration Association.  Within that forum, Advisers generally elect to apply the commercial arbitration rules.  The fees for commercial arbitration can be hefty and enough to deter many investors from even filing a claim.

PIABA, the Public Investor Advocate Bar Association, recently put out its view to follow on the SEC’s report.  It allowed one investor to explain the impact of the arbitration provision on her ability to seek a recovery:

Marykay Dragovich, the conservator for her cousin Rita Berardelli, described the process of forced arbitration after their trusted RIA lost over $228,000 in principal investments, money that Berardelli had saved as a registered nurse before suffering two life-altering brain aneurisms that left her incapacitated.  When Dragovich investigated recovering the losses for her cousin, she learned it would cost up to $202,000 to pay the upfront costs of an arbitration hearing.  So even if Berardelli got all her money back, she would have to pay as much as 90% of it to the arbitrators as prescribed by the overlooked forced arbitration clause in the agreement with her RIA.

Congress or the SEC will need to act to ensure that investors, who are now locked out of courts by arbitration agreements, will not also be locked out of arbitration by excessive fees.

** Disclosure — I am a member of PIABA.

Two quick hits this week.

First, I posted over at FT Alphaville on the Kirschner v. JP Morgan case, pending before the Second Circuit.  The court is being asked to decide whether syndicated loans are securities, and my post addresses what’s at stake for the parties.  Help yourself.

Second, VC Zurn rejected the first attempt at a settlement of the AMC class action over the creation of the APE preferred shares.  As I’m sure any reader of this blog knows, after AMC became a meme stock, it sought to sell more shares, but it needed a charter amendment to authorize an increase.  Retail holders of AMC stock refused to vote in favor – likely because retail simply doesn’t vote at all.  AMC thought it had a clever way around that, through the issuance of a new form of preferred shares, called APEs, that could vote alongside the common and would convert into common once additional common shares were authorized.  Many APEs were publicly traded, but some were placed with a hedge fund, Antara Capital, that was contractually obligated to vote in favor of the charter amendment.  As a practical matter, then, the issuance of the APE shares assured there would be sufficient votes to pass the charter amendment authorizing additional common shares that the common shareholders had rejected.  The AMC common shareholders sued, and the parties proposed to settle by issuing new shares to the common holders, which would mitigate the dilutive effect of the APE issuance.

VC Zurn rejected the settlement because it proposed to release all claims held by the common shareholders, not only relating to any breaches of duty with respect to the common, but also with respect to any breaches of duty to the APE holders, to the extent that any common shareholders also held APEs.  I.e., if you held only APE shares, you weren’t covered by the settlement, but if you held both common and APE, the settlement purported to release any claims concerning both holdings.  VC Zurn thought the release of APE claims was a bridge too far, but her reasoning was fascinating.

As I understand it, she offered two rationales.  The first was relatively mundane, and essentially was about due process in the class action context.  The claims asserted in the action were only about breaches of duty to common shareholders, not to APE shareholders.  The class reps were not appointed as representatives of the APE shareholders, and because the settlement itself – a share issuance that was dilutive to APEs – would be adverse to APE holders, class members might be differently situated with respect to APE shares (i.e., some might hold more APEs relatively to their common shares, some might hold fewer).  Under these circumstances, she held the claims alleged in the complaint were too distant from the claims being settled.

The second rationale was more interesting.  Here is what she said:

APE direct claims require not only proof of different facts than the claims asserted on behalf of the class of common stockholders: APE direct claims are appurtenant to a different security than common stock. APE direct claims can be brought only by APE unitholders. The class of common stockholders cannot release APE claims.

Under Delaware law, direct claims for violating voting rights associated with stock ownership are appurtenant to the share of stock that carries the voting power; they are not personal rights belonging to the stockholder who happens to own the shares….Any direct claims arising out of the rights appurtenant to the APE units are property rights associated with the APE units. They are not personal rights of the unitholder…

Get it? The rights attach to the shares.  The fact that a particular investor at a particular time may be holding those shares does not make them the investor’s rights; the rights are share rights.  The investor is the human avatar for the real object of interest, the shares.  Therefore, a class action of common shareholders can release claims associated with those shares, but not claims associated with another security, even if held by the same investors, because that other security is not in fact before the court.  It has not made an appearance, through its human host, in the courtroom.

That idea – where the rights of the shares are abstracted away from the actual for real investors who hold them, to the point where the desires of the human investors have no role to play – has been a sub rosa theme in corporate case law for a while.  In Revlon, for example, the directors were deemed to have violated their fiduciary duties to the common stockholders by seeking a sale that would protect the value of corporate notes – even though, as Daniel Greenwood has pointed out, many of the noteholders were in fact stockholders and very possibly would have wanted a sale that balanced the value of those two securities.  But, I think more recently, Delaware’s rhetoric on this has become more overt – which, by the way, is something I talk about in my paper, Every Billionaire is a Policy Failure, addressing with Elon Musk’s takeover of Twitter.  (See what I did there? With the plug?). 

Anyway, none of that bodes particularly well for the claims in McRitchie v. Zuckerberg, which is a putative class action in which Meta shareholders claim that the Board violated its fiduciary duties by maximizing Facebook’s wealth while externalizing costs on to the rest of society, to the detriment of diversified holders of Meta stock. But we’ll see what VC Laster has to say. 

John Malone and Gregory Maffei are repeat players before the Delaware courts.  They often occupy complementary positions within Delaware companies, and are frequently accused of abusing their combined positions to muscle through interested transactions.  Here’s a footnote from the complaint in Atallah v. Malone, which is the subject of today’s blog post:

Malone and Maffei have been sued numerous other times for engaging in self-dealing to the detriment of public stockholders. See, e.g., New Orleans Empls. Ret. Sys. v. The DIRECTV Group, Inc., C.A. No. 4606-VCP (Del. Ch. 2009) (Malone accused of orchestrating transaction, with Maffei’s approval, to obtain supervoting shares dilutive to the minority stockholders and receiving disproportionate tax benefits); Blackthorn Partners LP vs John C Malone, et al., C.A. No. 5260-CS (Del. Ch. 2010) (Malone accused of receiving premium for high-vote shares, with Maffei’s approval, that public shareholders did not receive, with class ultimately receiving $10 million settlement); In re Sirius XM S’holder Litig., Consol. C.A. No. 7800-CS (Del. Ch. 2012) (Maffei and rest of Board accused of failing to employ anti-takeover measures thus allowing Malone affiliate to improperly obtain majority control); In re Starz S’holder Litig., C.A. No. 12584-VCG (Del. Ch. 2016) (Malone accused of structuring transaction, with Maffei’s approval, such that he received different and more valuable consideration than public stockholders regardless of stockholder vote); Tornetta vs. Gregory B. Maffei, et al., C.A. No. 2019-0649-KSJM (Del. Ch.) (Board of directors including Maffei accused of ignoring standstill agreements and relying on Malone-affiliated banker to steer sale of company to Malone affiliate rather than sell at higher value to third party); Vladimir Fishel v. Liberty Media Corp., et al., Docket No. 2021-0820-KSJM (Del. Ch.) (Board of directors including Maffei accused of using company coffers to help Malone affiliate squeeze out minority stockholders).

Not included on this list, I don’t think, is Sciabacucchi v. Liberty Broadband, 2023 WL 4157103 (Del. Ch. June 22, 2023), in which Malone and Maffei settled claims involving related party transactions at Charter Communications,

Maffei has been the subject of so many shareholder lawsuits that he’s now seeking to reincorporate two of his companies from Delaware to Nevada, apparently for the explicit purpose of engaging in interested transactions with less oversight – which reincorporation is itself the subject of another shareholder lawsuit.

So that’s the background for Atallah v. Malone, where VC Glasscock found that derivative claims were properly pled against Malone and Maffei for a conflicted transaction, and refused to dismiss the complaint.

The set up: Qurate is a publicly traded company, of which Malone held high vote shares.  These were not by themselves enough to confer hard control at the 50% level, but were controlling enough that he had – and was compensated for – a call right held by Qurate.  If a third party were to offer for his high vote shares, and he was willing to accept, Qurate could call the shares for the lower of the third party offer, or a price equal to a 10% premium over the common, publicly traded shares.

Maffei was Executive Chair at Qurate, and also had an employment agreement to the effect that if Qurate changed control, he’d be entitled to resign from Qurate and win change in control benefits.

Given the close relationship between Malone and Maffei, then, as Matt Levine might put it, there was an opportunity for a Good Trade.

Maffei could “offer” to buy Malone’s shares; that would trigger the call right by Qurate, which would buy Malone’s shares at a premium above market.  Once Malone no longer held high vote shares, that would trigger a change in control at Qurate, which would entitle Maffei to severance.

And so that’s exactly what they did.  Except, of course, neither wanted to really leave Qurate, so Malone accepted for his high vote shares payment in common stock instead of cash, at a 10% premium to market price.

Meanwhile, Maffei said, “Yes, I could resign and take my severance, but I would be willing to stay on for a renegotiated compensation package” – which Qurate did, which included granting him high vote shares.

I haven’t done the math regarding the exact number of shares involved, but in many ways, the transaction appears to be designed to transfer Malone’s high vote shares to Maffei, while simultaneously giving Malone a premium and possibly Maffei a bit of a premium in stock awards, all out of Qurate’s pocket.

So of course, shareholders sued, claiming this entire series of transactions was undertaken by a controlling shareholder group – Malone and Maffei coordinating – to benefit them both.

What’s interesting here?

[More under the cut]

Continue Reading The One Where They Castrated Calves Together

The Nevada Supreme Court recently delivered an opinion on Series LLCs.  These entities are relatively new and not much caselaw on them currently exists so it’s good to get some more guidance about how to deal with them.

The case, Federal Housing Finance Agency v. Saticoy Bay LLC, reached the Nevada Supreme Court on a certified question from the Ninth Circuit about how to obtain jurisdiction over series LLC entities.  In short, the question the Ninth Circuit wanted answered was whether a court obtained jurisdiction over series entities by naming the master LLC itself or whether the individual series must be sued in its own name to establish jurisdiction over it?  Nevada’s Supreme Court answered that naming the individual series LLC at issue was not an “optional” matter.  To establish jurisdiction over a series entity, the entity itself must be sued.  It found that the “plain language of NRS 86.296(2) does not allow a party to sue a master LLC in lieu of a series LLC at the party’s discretion.”