Legal Developments

May 12, 2023

SEC Adopts New Share Repurchase Disclosure Requirements

Rick Gallagher & Vaqar Qureshi

On May 3, 2023, the Securities and Exchange Commission (“SEC”) adopted amendments to its rules governing share purchase disclosures.  The adopted amendments increase disclosures for issuer repurchase of shares and securities that are registered under Section 12 of the Securities Exchange Act of 1934 (Exchange Act) and Rule 10b5-1 trading plans.  The SEC release (Final Rule) is available here and a Fact Sheet is available here.

Pursuant to the amended rule, the issuers, including domestic corporate issuers, foreign private issuers, and listed closed-end-funds, are now required to provide new and expanded periodic disclosure of share repurchase in their 10-K, 10-Q, 20-F or N-CSR filings.  Specifically, issuers are now required to provide a tabulated daily quantitative share repurchase information which includes:

  • class of shares,
  • number of shares purchased,
  • average price paid per share,
  • number of shares purchased under publicly announced plans,
  • aggregate maximum number of shares or approximate dollar value that may still be purchased under a publicly announced plan,
  • number of shares purchased on the open market,
  • total number of shares purchased that are intended to qualify for the safe harbor in Rule 10b-18, and
  • total number of shares purchased under a plan that is intended to satisfy the affirmative defense conditions of Rule 10b5-1(c), referred to as a “10b5-1 trading arrangement.”

Moreover, issuers will also be required to report whether certain officers and directors purchased or sold shares subject to repurchase plan within four business days or after the public announcement of an issuer's buyback plan.

Important Compliance Dates

The new rules will become effective 60 days following publication of the adoption of release in the Federal Register.  For domestic issuers, Compliance with the new rules is required beginning with the first Form 10-Q or 10-K filing that covers the first full fiscal quarter that begins on or after October 1, 2023[1].  Foreign Private Issuers will be required to comply with the new disclosure requirements in the new Form F-SR beginning with the Form F-SR that covers the first full fiscal quarter that begins on or after April 1, 2024.  Listed Closed-End Funds will be required to comply with the amendments beginning with the Form N-CSR that covers the first six-month period that begins on or after January 1, 2024

Impact of the New Rule:

Issuers would have to establish protocols to track daily share repurchase activity, including trades made by directors and officers shortly after the announcement of a share repurchase plan.  Further, issuers will need to prepare an enhanced narrative disclosures as to their repurchase plan.

From the SEC's standpoint, the new rule would end violations of the daily sales limits and would close the gap between issuers and investors.  From shareholders' standpoint, they can use this newly available information in making voting decisions, including board votes, say on pay, in engagement activities and in making decisions to buy, hold, or sell.

[1] For calendar year end companies, this will be the Form 10-K for fiscal year 2023.

April 3, 2023

DAOs Beware: You May Be a General Partnership and Subject to Liability

Rick Gallagher & Vaqar Qureshi

On March 27, 2023, a California federal court issued a ruling that could have significant implications for the future of decentralized finance, particularly decentralized autonomous organizations (DAOs) and the regulatory framework that governs it.

In Sarcuni v. bZx DAO[1], Plaintiffs brought a putative class action against bZx DAO (Defendants) alleging negligence in failing to secure its bZx DeFi platform. DeFi (short for decentralized finance) platforms allow users to engage in crypto related transactions without having to interact with traditional banks or other regulated entities. 

The crux of the case had to do with the DAOs bZx Protocol, which enables margin trading in addition to other offerings such as lending products.  

On November 5, 2021, the bZx DeFi platform lost $55 million in cryptocurrency value  as a result of a phishing attack.  Subsequently,  bZx DAO approved a “compensation plan” for those impacted by providing replacement BZRX tokens[2] that would vest over time.  The compensation plan also provided “debt tokens,” which would be repurchased over time, with the intent of making whole the victims of the phishing attack.

In December 2021, Defendants replaced the bZx Protocol with the Ooki Protocol and encouraged users to transfer to this new platform.  The Ooki Protocol was controlled in the same manner as its predecessor bZx Protocol, except the controlling DAO was called the Ooki DAO and the governance tokens were called OOKI tokens.  Many BZRX tokenholders transferred their tokens for OOKI tokens.

On May 2, 2022, Plaintiffs filed a class action lawsuit in the US District Court for the Southern District of California alleging that bZx DAO members are jointly and severally liable for damages resulting from negligence in failing to secure the bZx DeFi platform. Plaintiff's theory of liability was predicated on the existence of a general partnership among all persons holding BZRX tokens, thus making them jointly and severally liable.  

Defendants moved to dismiss on various grounds, including failure to plausibly demonstrate the existence of a general partnership. In a case of first impression, the Court ruled that Plaintiffs sufficiently pled facts to demonstrate bZx DAO is a general partnership under the California Corporations Code (Cal. Corp. Code § 16202(a)).  To plausibly allege the existence of a general partnership under the Statute, the Court stated that the plaintiffs must demonstrate that the bZx DAO is:

  1. an association of two or more persons;
  2. carrying on as co-owners of;
  3. a business for profit.

The Court found that these elements of a general partnership existed because: 

  1. bZx DAO is an association of two or more persons, including BZRX token holders and investors;
  2. BZRX token holders have governance rights in the bZx DAO; and
  3. bZx DAO generates profits through its margin trading and lending products.

The Court emphasized that “the distinguishing feature of partnership is association to carry on business together, not [an] agreement to share profits.”  Defendants presented four theories of defense in their claim that no partnership existed. 

First, Defendants argued that tokenholders possess some governance rights, but these rights are too limited to establish the existence of a general partnership. The Court disagreed, holding that “limited governance rights don't divest a partnership of its essential nature - a partnership can still exist when individual partners only control a part of the enterprise.”  

Second, Defendants argued that Plaintiffs failed to sufficiently allege the existence of profit and loss sharing.  The Court again disagreed, holding that “[The] actual sharing of profits ... is prima facie evidence, which is to be considered, in light of any other evidence, when determining if a partnership exists, and the fact that profits and losses are not shared equally does not necessarily compel a conclusion that no partnership existed.”    

The Court found sufficient allegations  of profit sharing and took judicial notice of a prior CFTC's finding that “bZx Protocol liquidity pool['s] ... assets were supplied by liquidity providers who, in exchange, had received interest-generating tokens, as well as BZRX Protocol Tokens (“BZRX Tokens”) conferring voting rights on certain matters relevant to bZx Protocol governance.”  The Court emphasized that The CFTC's findings reinforce the notion that tokenholders can “share in the DAO's profits either by voting to distribute treasury assets among themselves or via an interest-generating token.”

Third, Defendants argued that Plaintiffs “allege no facts suggesting that Defendants (let alone all BZRX token holders) agreed to bear any and all losses suffered by a partnership.” The Court disagreed, holding that “[a]n agreement to divide profits implies an agreement for a corresponding division of losses, unless otherwise expressly stipulated.”

Fourth, Defendants argued that a finding “that each and every BZRX token holder plausibly could be a co-owner of a business with management authority and unlimited personal liability for any losses connected to the platform, and thus subject to full discovery into their potential liability would be a radical expansion and alteration of long-standing principles of partnership law and should not be countenanced.” The Court disagreed, reminding the Defendants that (Courts) do not countenance partnerships which attempt to afford all the advantages of commercial intercourse without corresponding liabilities, and an agreement which contemplates such evasion will be construed and enforced as a general partnership.

The Impact of the Court's Ruling

The case is significant and impacts blockchain communities in general, and DAO governance token holders and members in particular, because aggrieved token holders can now simply use ownership of governance tokens, even if they were not used to vote, to prevail on an allegation of joint and several liability premised on theory of general partnership.

[1] Sarcuni v. bZx DAO, No. 22-cv-618-LAB-DEB, 2023 WL 2657633, at *1 (S.D. Cal. Mar. 27, 2023).

[2] cryptocurrency issued by bZx DAO


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