Shareholder Lawsuits Allege that Chesapeake Energy Corp. Directors Concealed $1 Billion in Loans Giving the CEO an Interest in Company’s Natural Gas Wells

Tuesday, May 8th, 2012 | Executive Compensation Attorney | No Comments

According to shareholder lawsuits recently filed in the U.S. District Court for the Western District of Oklahoma, Chesapeake Energy Corporation’s directors allegedly violated federal securities laws and their fiduciary duties by concealing over $1 billion in loans that gave the company’s CEO an interest in every natural gas well drilled over a 10 year period.

The lawsuits follow a mid-April news report published by Reuters that purportedly shows how Chesapeake’s chairman and CEO, Aubrey McClendon, obtained a 2.5% state in thousands of wells that the natural gas company has drilled since 2005.  On April 26, 2012, Reuters reported that the U.S. Securities and Exchange Commission (SEC) had been carrying out an investigation of a decision of Chesapeake’s board to permit McClendon to use a “company finance source” to obtain up to $1 billion in loans secured by the CEO’s stake in the natural gas wells.

Following this report, Chesapeake released a statement admitting that while it had general knowledge of the loan-and-investment program, the company’s directors “did not review, approve or have knowledge of the specific transactions engaged in by [the CEO] or the terms of those transactions.”

The lawsuit was brought by two Chesapeake shareholders and seeks to hold Chesapeake’s board of directors – including former Oklahoma Governor Frank Keating – individually liable for the cost of the alleged violations of fiduciary duty.

One of the shareholder complaints contains allegations that Chesapeake’s directors violated both federal proxy laws and their duty of disclosure by failing to inform shareholders of the possible conflict of interest and cost arising from the company assisting the CEO to purchase an interest in the natural gas wells.

The lawsuit seeks an order from the court to force Chesapeake’s director’s to make a complete disclosure of facts pertaining to the loans and investment scheme and also to put in place independent oversight of the program.

Shares of the Chesapeake stock have rapidly declined since the Reuters news story broke, resulting in a nearly half-billion dollar loss in the company’s market value.  The lawsuits also request that the court order the company’s directors to compensate shareholders for the shares’ decline in value.

Ninth Circuit Issues En Banc Decision Adopting Narrow Interpretation of Computer Fraud and Abuse Act (CFAA)

Thursday, April 19th, 2012 | Executive Compensation Attorney | No Comments

Last week the U.S. Court of Appeals for the Ninth Circuit issued an en banc decision in the case of United States v. Nosal, No. 10-10038 (9th Cir. Apr. 10, 2012), relating to the issue of whether former employees can be held criminally liable under the Computer Fraud and Abuse Act (CFAA) for accessing their employer’s computer in violation of the employer’s computer use policy in order to obtain client information for a new job. The court held, in a 9-2 decision, that the CFAA does not allow criminal prosecutions of an employee who violates his or her employer’s computer usage policy. However, such employees can still be subject to criminal liability under other theft statutes.

At issue in the lawsuit was the conduct of David Nosal, a former employee of executive search firm, Korn/Ferry International, who convinced some of his former co-workers who were still working for Korn/Ferry to assist him in starting a competing business. Nosal’s former co-workers used their login information to download company information including the names and contact information of clients from a database on Korn/Ferry’s computer and then sent that information to Nosal. While the employees were authorized to access the company’s database, the company maintained a policy forbidding the disclosure of confidential information.

After the transfer of client data, the government indicted Nosal on various criminal charges including trade secret theft, mail fraud, and violations of the CFAA. The CFAA forbids the “exceed[ing] authorized access” for a fraudulent purpose and defines this as “access[ing] a computer with authorization and to use such access to obtain or alter information in the computer that the accesser is not entitled so to obtain or altered.”

The court interpreted the CFAA narrowly, holding that because Nosal’s associates had permission to access the company’s database and obtain the information contained therein, the Government’s charges failed to meet the element of “without authorization, or exceeds authorized” access.

Writing for the majority, Chief Judge Kozinski indicated that perhaps the most important factor for the majority in interpreting the CFAA narrowly was its concern that the Government’s “construction of the statute would expand its scope far beyond computer hacking to criminalize any unauthorized use of information obtained from a computer” and would “make criminals of large groups of people who would have little reason to suspect they are committing a federal crime.”

The court’s en banc decision will limit prosecutors who have made more aggressive use of the CFAA in recent years, as well as companies who have used the CFAA as a basis for claims against current and former employees.

The Government may seek review of the Ninth Circuit’s en banc ruling by the U.S. Supreme Court, as the Ninth Circuit’s recent decision conflicts with decisions of the First, Fifth, Eighth, and Eleventh Circuits.

Former Executives Sued for Breach of Duty Ask Delaware Chancery Court to Force Company to Finance Their Defense

Friday, April 6th, 2012 | Executive Compensation Attorney | No Comments

Three former executive officers of Catch the Wind Inc. (CTW Inc.), a wind turbine technology company, have asked the Chancery Court of Delaware to require the company to pay their legal bills in a breach of duty lawsuit that the company brought against them.

The executives founded Optical Air Data Systems to develop and research laser technology and later spun off CTW Inc. in 2008 as a separate company that would focus on commercial applications of the technology the parent company had developed.  Following the spin-off, CTW Inc. became a subsidiary of CTW Ltd., a Delaware chartered holding company that reincorporated in the Cayman Islands in 2011 following an investment by venture capital investment company, Bayview Public Ventures.

The three executives named in the suit had served as directors of CTW Inc. until September 2011 when the holding company voted to terminate them after a disagreement about the purchase of a company jet. CTW Ltd. The company brought then suit against the former executives, claiming that they misled the company about the cost of the plane to the tune of $18 million.

The former corporate officers have asked the court to force CTW Ltd. to pay near $60,000 in existing legal fees and future attorney costs as Delaware law requires that corporations chartered in the state to pay all defense costs that corporate directors and officers incur during their service. The former executives claim that despite CTW Ltd. now being a Cayman Islands company, Delaware indemnification law continues to apply to the former executives’ employment contracts.

Under Delaware law, corporations agree to cover the cost of their officers’ and directors’ legal bills, provided that the officers and directors are not found responsible for disloyal actions. Additionally, in Delaware corporations must advance the cost of officers’ legal defense as they accumulate during litigation rather than when litigation has concluded.

Chinese Company Ordered to Disclose Location of Executives Named in U.S. Securities Fraud Suit

Friday, March 23rd, 2012 | Executive Compensation Attorney | No Comments

Judge Philip Gutierrez of the U.S. District Court for the Central District of California recently ordered China Intelligent Lighting & Electronics to disclose any information it has pertaining to the whereabouts of its directors and officers so that shareholders can bring action against the executives in a securities fraud suit.  The company’s directors and officers are named in a lawsuit involving false information provided during an initial public offering (IPO).

The disclosure order is significant, because typically under the Private Securities Litigation Reform Act (PSLRA), plaintiffs are barred from proceeding in discovery until the lawsuit has survived a motion to dismiss.  Judge Gutierrez indicated that he made an exception because the plaintiffs seeking to bring action against China Intelligent Lighting had made repeated attempts to locate four of the company’s officers and had not yet succeeded in serving them process.

“Not granting [the limited discovery]” would, according to the judge, “delay this litigation and may ultimately allow some defendants to escape liability.”  Additionally, according to the judge, China Intelligent Lighting is unlikely to be burdened by the request and that this limited discovery “will not contravene the purposes of the PSLRA discovery stay.”

China Intelligent Lighting is allegedly among one of the hundreds of so-called ‘reverse merger’ companies that now trade on U.S. stock exchanges after having created shell corporations chartered in the U.S. but whose assets, executives, and headquarters are located in China.

The U.S. Securities and Exchange Commission (SEC) has recently targeted many of these reverse merger companies for allegedly illegally manipulating assets, providing false or incomplete information on mandatory disclosures, failing to adhere to proper corporate governance, and improper accounting practices.   Lawsuits against such companies often face problems in gaining access to officers and information that may be located abroad.

Securities and Exchange Commission Brings Fraud Lawsuit against China-Based Executives of Puda Coal

Friday, March 23rd, 2012 | Executive Compensation Attorney | No Comments

The U.S. Securities Exchange Commission (SEC) has charged two executives of a China-based company, Puda Coal Inc., with fraud, claiming that the executives sold U.S. investors shares in a shell company instead of the actual coal business in which investors sought to purchase stock.

The suit alleges that Puda Coal’s chairman, Ming Zhao, and former CEO, Liping Zhu, attempted to “steal and sell” Puda Coal’s subsidiary company, Shanxi Puda Coal  Group.  Specifically, the SEC claims that Zhao transferred Puda Coal’s controlling interest in Shanxi Puda to himself and then turned Puda into an empty shell company prior and sold shares to the publish.

The SEC also alleges that Puda Coal’s chairman and former CEO also failed to report their company’s transfer of the controlling interest in Shanxi Puda to the SEC while continuing to raise investments from U.S.-based investors.

According to an internal probe, Puda Coal previously announced that Mr. Zhao had transferred the company’s stake in Shanxi Puda without seeking formal approval from the company’s board or shareholders and that Mr. Zhu had been aware of the transaction.

The lawsuit, filed in the U.S. District Court for the Southern District of New York on February 22, 2012, seeks court orders for Zhao and Zhu to return any funds they gained from the allegedly fraudulent transactions as well as pay civil fines.

This case follows the SEC’s continuing efforts to investigate irregularities of China-based companies that list on U.S. stock exchanged.  Puda Coal had previously been listed on the NYSE Amex but was delisted in 2011.

TELG Principal’s Article on Security Clearance Guidelines Featured in Westlaw Journal

Thursday, November 10th, 2011 | Executive Compensation Attorney | No Comments

The Employment Law Group® law firm principal attorney R. Scott Oswald’s two-part article titled “Introduction to the Federal Security Clearance Process,” recently appeared in the Westlaw Journal, Government Contracts.

In Part 1 of the article, Oswald provides a comprehensive summary of the history and development of security clearance law. He explains how recent law has developed by referring to important Executive Orders under Presidents Eisenhower and Clinton, as well as landmark Supreme Court Cases such as Egan v. Department of the Navy.  In addition, Oswald explains the basis on which security clearance candidates are evaluated.  He explains that:

The adjudicative process for a security clearance is ‘an examination of a sufficient period of a  person’s life to make an affirmative determination that the person is an acceptable security risk.’ Agencies inquire into a candidate’s perceived loyalty, reliability, and trustworthiness by reviewing the candidate’s history, relationships, and overall character.

Oswald lists the primary factors considered by evaluators during a security clearance investigation:

• Foreign Influence
• Foreign preference
• Sexual behavior
• Personal conduct
• Financial considerations
• Alcohol consumption
• Psychological conditions
• Criminal conduct
• Handling protected information
• Outside activities
• Use of information technology systems

In Part 2 of the article, Oswald describes the process of appealing a security clearance denial or revocation across various government agencies, such as the Department of Defense and NASA. He also offers practical tips for successfully appealing an adverse security clearance determination by an agency. He encourages the candidate to examine the agency’s stated reasons for denying or revoking the security clearance and collect evidence to support an argument against the agency’s decision. Oswald strongly recommends seeking the advice of an experienced employment attorney:

An attorney with experience examining and cross-examining witnesses can be invaluable during a hearing.  An experienced attorney may also have handled security clearance cases with your particular agency and will be able to frame your case consistent with your agency’s expectations.

TELG Principal David Scher Quoted by Forbes

Friday, September 16th, 2011 | Executive Compensation Attorney | No Comments

David Scher, a Principal attorney at The Employment Law Group®, was quoted by Forbes, ‘Contagion’: Why Your Company Needs a Succession Plan. He discusses the importance of succession plans as a smart business practice. Scher says, “The purpose of a succession plan, which is also referred to as a redundancy plan, is to help less experienced employees develop themselves in management.” This works as a type of insurance to ensure the success of a company should something happen to a more experienced worker: “What happens is, when a more experienced worker does retire or move on, there’s now someone at the company who can pick up the slack because he or she has been trained to step into that position. It’s a back-up plan” but shouldn’t be confused with an exit strategy. “The question that companies need to ask, from an employment perspective, is ‘Do we have a plan in case a person- or several people- become permanently or medically unable to perform.”

However, this plan should not be used as a way to discriminate against the medically disabled. He also goes on to say, “Succession plans need to be legally compliant, and not be a way to discriminate based on illegal factors, such as age.” A company should protect itself from discrimination claims by maintaining good communication with employees and by openly discussing succession plans. Scher says that most importantly, “Succession plans need to be visible.”

Gateway Ruling May Prompt Many Companies to Change Their D&O Insurance Policy

Monday, September 12th, 2011 | Executive Compensation Attorney | No Comments

“In recent years, directors and officers liability insurance has become a core component of corporate insurance. As many as 95% of Fortune 500 companies maintain directors and officers (“D&O”) liability insurance today.” However, a recent ruling by the Southern District of California might prompt many companies to change the language in their D&O policies.

In 2003, a number of Gateway officers and directors were sued by the Securities and Exchange Commission (SEC) but eventually settled out of court. In the course of investigation, several executives and Gateway employees that weren’t the target of SEC investigation were subpoenaed as witnesses. The SEC commonly asks non-party corporate employees to testify when corporate officials face SEC enforcement actions. Gateway employed the same law firm representing the Defendant’s sued by SEC to conduct all of the depositions in connection to the case. Gateway incurred $553,875 in attorneys’ fee as a result of the deposition. Gateway’s Directors and Officers policies written by Travelers Indemnity Co., had a $15 million limit.

When Gateway submitted $553,875 in attorneys’ fees, Travelers refused to pay stating that the policy was only intended to cover officers and directors who were the defendants in the SEC lawsuit. Gateway sued the insurance company claiming that the policy could be read to include all directors, officers or employees connected to the defense against the charges. U.S. District Judge William Hayes of the Southern District of California ruled in favor of Gateway. In his opinion, Hayes wrote that both interpretations are reasonable to resolve the ambiguous language of the policy; however, Travelers must suffer for the ambiguity of its policy and pay all attorneys’ fees. This ruling will likely prompt liability insurance companies to change the definition of “Directors and Officers” in their D&O policies to limit the types of attorneys’ fees for which insurance companies will indemnify corporations and their directors and officers.

Tags: Directors and Officers Insurance Policy, Securities and Exchange Commission

Shareholder Sues Nutrisystem for Violating “Say on Pay” Vote

Thursday, September 8th, 2011 | Executive Compensation Attorney | No Comments

Walter Wyrick Jr., a Nutrisystem shareholder, filed a suit in the U.S. District Court for the Eastern District of Pennsylvania against Nutrisystem’s board of directors. Wyrick alleges that the company failed to uphold its shareholder “say on pay” policy when it gave company executives pay increases even though shareholders voted against them primarily due to “abysmal” stock prices. Despite this vote, Wyrick claims, the board of directors increased CEO, Joseph Redling’s compensation by 50% and CFO David Clark’s by 90%.

The Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 granted shareholders the right to vote on pay increases for executives contingent on good performance. However, in May 2011, 60% of shareholders voted against Nutrisystem’s proposed pay packages because the company’s stock price dropped nearly a third- or 70% since 2007.

Tags: Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010

TELG Principal on D.C. Bar Executive Employment Agreements Panel

Wednesday, June 15th, 2011 | Executive Compensation, Executive Compensation Attorney, The Employment Law Group | No Comments

On June 20, 2011, R. Scott Oswald, Managing Principal of The Employment Law Group® law firm, will serve as a panelist at a D.C. Bar CLE entitled “Drafting and Negotiating Executive Employment Agreements.”  The Employment Law Group® has substantial experience advising corporate officers on their executive compensation packages.  The panel will concentrate on D.C. law, but will also compare and contrast the law and practice in Maryland, Virginia, and Pennsylvania.  Register for the event at this website.

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