Securities Industry Commentator by Bill Singer Esq

August 18, 2020

Chancery Court Declines to Excuse Demand Upon Directors In MetLife Derivative Suit

SEC Charges Hertz's Former CEO with Aiding and Abetting Company's Financial Reporting and Disclosure Violations (SEC Release)
When tasked with implementing industry reforms on behalf of the investing public or the industry's smaller firms and associated persons, FINRA's Board of Governors tends to shrug. It just never rouses itself to the task. What more prompting is required by the Board than the growing chorus of judges who are shocked and dismayed by the dubious performance of FINRA's arbitrators and by the morass created by FINRA's adherence to a default protocol of unexplained decisions? Consider today's featured federal case. 

FINRA Arbitration Awards Online Crashes
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The Arbitration Awards Online application is currently experiencing technical difficulties regarding its search functionality. We are working as quickly as possible to resolve the issue. . . .

FINRA Disciplinary Actions Online Crashes
On August 18, 2020, visitors to FINRA's Online FINRA Disciplinary Actions database found all content from May 14, 2019, to the present deleted. Visitors were presented with this alert:

The FINRA Disciplinary Actions Online application is currently experiencing technical difficulties regarding its search functionality. We are working as quickly as possible to resolve the issue. . .

In re MetLife Inc. Derivative Litigation (Opinion, Delaware Court of Chancery, 2019-0452)
In this derivative action, Plaintiffs alleged that various MetLife corporate fiduciaries failed to adequately oversee the business' operation and should be held liable to the corporation for the damages caused by their lapses. The Defendant fiduciaries moved to dismiss for failure to make a demand on the Directors, thus allowing the Board to exercise its prerogative to sue on the corporation's behalf.  As explained in part in the Chancery Court's Opinion:

[O]nly where a plaintiff is able to plead with particularity circumstances raising a reasonable doubt that the board is able to exercise its business judgment to consider the proposed legal action is demand excused, and the plaintiff empowered to proceed derivatively on behalf of the corporation. 

Here, the only reason advanced by the Plaintiffs that demand should be excused is that a majority of the demand board would themselves be liable in this action alleging a failure to oversee the business, and therefore the board could not fairly consider a demand. A corporate oversight claim under the Caremark rationale, however, is notoriously difficult for plaintiffs. I find that the Plaintiffs have failed to plead facts sufficient to imply director liability or otherwise to excuse demand under Rule 23.1.

at Page 1 of the Chancery Opinion

The underlying facts raise a number if interesting and troubling allegations, as noted in part by the Court:

The complaint alleges that a long-standing part of MetLife's business is to undertake other businesses' fixed-benefit pension obligations to employees, by agreeing to pay an annuity to the employee once the employee retires and benefits become payable. This business operation, which MetLife calls the Pension Risk Transfer Business, has been a part of the MetLife operation since 1921. Historically, MetLife has given notice to employee/annuitants of entitlement to benefits at the address provided to them by the employer, by letters sent when each employee turned 65 and again when the employee reached 70 years and six months of age (the "two-letter" policy). If the employee thereafter responded to the notice, the annuity payments would commence; if not, the Company would presume the employee was dead and ineligible for benefits. 

This system was hardly foolproof-some employees were alive but not at the address provided. As technology has improved, better tools to identify and locate annuitants developed, including a computerized list of deceased American employees maintained by the U.S. Social Security Administration and called the Death Master File. That list enumerated those who had died, not those who remained alive; nonetheless, it enabled a cross-check against MetLife's assumptions of annuitant demise. According to the complaint, MetLife was slow to adopt this and other new technology, allowing the Company, wrongfully, to avoid payments to annuitants and, because of the erroneous assumptions of annuitant death, release reserves associated with that annuitant into Company earnings. In fact, MetLife used the Death Master File to inform itself, in some cases, of annuitant death in order to stop making payments, but not in the Pension Risk Transfer Business to potentially refute assumptions of death, which allowed the Company to avoid commencing payments. Ultimately, in December 2017, MetLife revealed in a Form 8-K that it had discovered the weaknesses inherent in the two-letter policy, and that it would enhance identification of annuitants in the Pension Risk Transfer Business and "strengthen" reserves, and warned that the changes could be material to operations. Class action securities litigation followed, as well as regulatory actions by the states of New York and Massachusetts, which have resulted in many millions of dollars of fines and restitution payments imposed upon the Company. The complaint alleges that the Defendants failed to adopt these procedures in a timely way, and should be held liable for breach of duty. 

The Defendant Directors here are protected by an exculpatory clause in the corporate charter. In order for me to find it sufficiently likely that they are liable so that demand is excused, therefore, the complaint must contain specific allegations of fact from which I may infer that the Director Defendants' actions or inaction were in bad faith; that is, in conscious disregard of their duties. I find, however, that the allegations that the Defendant Directors failed to ensure that the Company supplemented or superseded the two-letter policy falls short of a specific pleading of bad faith. Demand is not excused, therefore, and this matter is dismissed.

at Pages 2 - 4 of the Chancery Opinion
Mary Martinez a/k/a "Mary Flores" was charged in an Indictment filed in the United States District Court for the Northern District of Illinois with ten counts of wire fraud. As alleged in part in the DOJ Release;

[M]artinez owned and operated a number of companies, including Illinois Housing Solutions, America Investment Corporation, and Investor Short Sale Niche, that purported to offer financial services, real estate and mortgage services, and investment opportunities.  Martinez advertised on the radio offering to help individuals who had lost their homes through foreclosures to purchase another home and improve their credit. 

The charges allege that from 2011 to earlier this year, Martinez made false representations to victims to obtain investment funds, including retirement savings, college funds, and personal savings.  Instead of helping victims save money for a down payment on a house, Martinez misappropriated a substantial portion of the victims' funds to pay her personal and business expenses, including rent payments and retail purchases, the indictment states.

As a result of the scheme, Martinez caused losses to victims of at least approximately $450,000, according to the charges.
In a Complaint filed in the United States District Court for the District of New Jersey, the SEC charged former Hertz Global Holdings Inc. Chair/Chief Executive Officer Mark Frissora with aiding and abetting Hertz's reporting and books and records violations and with violating Section 304 of the Sarbanes-Oxley Act by failing to reimburse Hertz for the requisite amount of incentive-based compensation he received. Without admitting or denying the allegations, Frissora consented to a judgment permanently enjoining him from aiding and abetting any future violations of the applicable federal securities laws, requiring him to reimburse Hertz for $1,982,654 in bonus and other incentive-based compensation and requiring him to pay a $200,000 civil penalty. Previously. in December 2018, Hertz settled fraud and other charges with the SEC and agreed to pay $16 million. Also, the SEC issued a settled Order against Hertz's former Controller Jatindar Kapur. As alleged in part in the SEC Release:

[H]ertz's financial results fell short of its forecasts throughout 2013, Frissora pressured subordinates to "find money," principally by re-analyzing reserve accounts, causing Hertz's staff to make accounting changes that rendered the company's financial reports materially inaccurate. According to the complaint, Frissora also led Hertz to hold rental cars in its fleet for longer periods and thus lower its depreciation expenses, without properly disclosing the change - and the risks of relying on older vehicles - to investors. In addition, the complaint alleges that Frissora approved Hertz's reaffirming its earnings guidance in November 2013, despite Hertz's internal calculations that projected lower earnings per share figures. Hertz revised its financial results in 2014 and restated them in July 2015, reducing its previously reported pretax income by $235 million.