Monthly Archives: February 2015

Risk It to Get the Biscuit: The Dangers and Rewards of Tesla’s Stock Volatility

Posted on by

By Maxwell Levine

On June 26, 2010, Tesla Motors (“Tesla”) became the first American automaker to go public since Ford in 1956. On its first day trading on the market, Tesla’s share price rose from $17 to $23.89, an impressive 41% surge. Even more surprising, from March 4, 2013 to September 4, 2014, Tesla’s stock exploded from $35.58 to $286.04, a 703.9% increase in merely 18 months!

No one benefited more from Tesla’s stock boom than Tesla’s CEO Elon Musk, who had the foresight to forgo a large annual salary in exchange for stock options. Musk’s 35,001,294 shares are currently valued at $7.16 billion and comprise approximately 27% of the company’s total outstanding shares. Despite Musk hitting the jackpot with his Tesla shares, potential investors should proceed with caution before investing.

As a publicly traded company, Tesla has never posted a profit, nor are they forecasted to until 2017. Musk himself stated in October 2013 that “[t]he stock price that we have is more than we have any right to deserve” as shares were trading at nearly 100 times the 2014 earning estimates.

Other than overvaluation, investors must consider how fast and severe the stock price would drop if Musk decides it is time to cash out and begins selling off massive chunks of his position. Although Musk has stated that “I will be the last one to sell shares,” Musk is a true entrepreneur and it would be in his character to seek out innovative ventures with substantial financial needs to invest in. In addition to Tesla, Musk is currently the CEO of SpaceX, a company that builds rocket ships that take astronauts and cargo to space, and has expressed a keen interest in constructing a sci-fi-like vacuum-tube network system he refers to as “The Hyperloop”.

Additionally, Tesla has invested $5 billion dollars in building its lithium battery pack manufacturing facility in Nevada known as “The Gigafactory,” which promises to reduce the costs of battery production by 30%. While the company’s commitment to growth is both obvious and necessary, it does not provide any value to short term investors.

Those considering investing in Tesla, should only do so if they are willing and able to hold their position for at least 2 to 3 years. While the uncertainties surrounding Tesla’s valuation are legitimate, those who have the patience and means to tolerate the risks now are putting themselves in a position to potentially realize astronomical returns on their investment in the long run.

SEC Clawback Provision Costs Silicon Valley Executives Half a Million Dollars

Posted on by

By Amanda E. Preston

Casting a blind eye may help executives sleep better at night, but it may also cost them half a million dollars. On February 10, 2015, the Securities and Exchange Commission (SEC) announced that it had entered into a settlement with William Slater and Peter Williams III, two former chief financial officers of Saba Software, Inc. (Saba). Slater and Williams agreed to return $336,375 and $141,992, respectively,  in bonuses and stock sale profits they received while the Silicon Valley software company was committing accounting fraud. Last year, the SEC worked out a similar settlement with former Chief Executive Office Babak “Bobby” Yazdani, in which he agreed to hand back $2.5 million.

While Slater, Williams, and Yazdani were not personally charged with the company’s misconduct, Section 304 of the Sarbanes-Oxley Act still requires the executives to reimburse the company for monetary perks received during the commission of the fraud. Saba was discovered to have filed financial statements which overstated its pre-tax earnings and misrepresented its revenue recognition practices. Specific allegations included claims that the company’s professional-services managers directed consultants in its Indian subsidiary to fabricate time records in order to meet quarterly revenue and margin goals.

The SEC’s clawback provision, expanded by Section 954 of the Dodd-Frank Act, applies to current and former executive officers, and is triggered by any accounting restatement due to material non-compliance with financial reporting laws. The provision allows the SEC to pursue the recovery of incentive compensation greater than what would have been paid to the officer under the accounting restatement. The SEC first exercised this new clawback authority in July 2009 when it went after the former CEO of CSK Auto Corporation. The case, SEC v. Jenkins, settled for $2.8 million.

Lawyers for Slater expressed their regret at the SEC’s decision to clawback profits from the Saba executives, claiming that his lack of knowledge about the company’s misconduct, and the SEC’s failure to allege any wrongdoing on his part, made “the demand for disgorgement . . . unjust.” But the SEC doesn’t see it that way, stating that even the innocent executive has “an obligation to return their bonuses and stock sale profits to the company for the benefit of the shareholders who were misled.”

New IRS Policies Regarding IRA Distributions May Affect Brokers and Investors

Posted on by

By David Tanner

For over thirty years, the Internal Revenue Service (“IRS”) has taken the position that an individual with two IRAs, IRA1 and IRA2, could take a distribution from IRA1 and IRA2 within one year of each other without taxes or penalties. This is contingent upon the fact that the funds from the distributions be placed in an IRA within sixty days of the distribution. However, that has changed because of the tax court’s decision in Bobrow v. Commissioner, T.C.Memo 2004-21. In Bobrow, the taxpayer, took a distribution from one IRA and placed the funds into a joint checking account he had with his wife. Just before the sixty-day time period elapsed, he took a distribution from another IRA, IRA2, and placed those funds into IRA1. Then, his wife took a distribution from her IRA and placed the funds in the joint checking account she had with her husband in order to place the funds into IRA2 to avoid paying taxes on the distribution.

The taxpayer believed that his actions were consistent with IRS Publication 590 and treasury regulation 1-408-4(b)(4)(ii) because they stand for the proposition that individuals were limited to one tax free rollover per account, not one tax free rollover in total. The IRS cited tax court cases to argue, contrary to its stated position, that individuals were limited to one tax-free rollover per year. While it may seem surprising that the IRS may take a position in litigation that was counter to its stated position, it was free to do so. IRS Publications are not binding on the IRS because they are not authoritative. Also, proposed regulations, as opposed to final regulations, are not binding on the IRS and cannot be cited as authoritative for taking a certain tax position. The tax court stated that the plain meaning of the statute indicated that it meant to apply the one year limitation to the individual, not the account. In addition, the tax court cited legislative history showing that Congress was concerned about taxpayers shifting investments between IRAs.

As a result of Bobrow, the IRS has withdrawn the proposed regulation and is working to rewrite Publication 590 to reflect their new position. It is important that brokers and investors are aware of this because it is a dramatic change from a longstanding policy. Failure to comply with the new rule will result in the taxpayer’s additional IRA rollovers being taxable. Furthermore, the taxpayer may be subject to a twenty-percent substantial underpayment penalty because there is not “substantial authority” or a “reasonable basis” for believing that taxpayers can make more than one tax-free IRA rollover in one year.

Does Arbitrator Diversity Matter? PIABA’s Study Finds Roughly Homogenous Roster of FINRA Arbitrators

Posted on by

By Jessica Neer

Last fall, the Public Investors Arbitration Bar Association (PIABA) released a study titled “The Importance of Arbitrator Disclosure”.  The study analyzed the backgrounds of current Financial Industry Regulatory Authority (FINRA) arbitrators and the arbitrator recruitment and disclosure process.  The emphasis on the make-up of arbitrators stems from the concern that arbitration can only be as fair as the arbitrators that dictate the outcome of disputes.  This is particularly important to aggrieved investors that must resolve disputes with their brokers or brokerage firms through FINRA Dispute Resolution.

The study found a fairly homogeneous pool of arbitrators that “put them out of touch with the average investor.”  More specifically, 80% of the arbitrator pool are men; the average age of a FINRA arbitrator is 67, with 40% of the arbitrators over 70 years old and about 17% over 80 years old.  Furthermore, 73% of arbitrators have advanced degrees.

The implications of the lack of diversity include one-sided rulings by arbitration panels, according to PIABA President Jason Doss.  The overall “win rate” for investors has dropped from about 60% in the early 1990s, fell as low as 37% in 2007, and was approximately 42% in 2013.  Mr. Doss asserts, “There is no question that having a pool of arbitrators with diverse backgrounds and experiences will result in improved decision making.”

The study proposed a series of recommendations, including congressional action to give investors the option to go to court.  The Investor Choice Act of 2013 would prohibit mandatory pre-dispute agreements that force investors to arbitrate.  Other recommendations included the Securities Exchange Commission (SEC) developing an independent group to oversee FINRA’s arbitration process and commissioning an independent study about arbitrator diversity.

In response to PIABA’s report, FINRA counters it has an aggressive recruitment campaign to reach potential arbitrators from diverse backgrounds.  Specifically, FINRA provided an Appendix of over 100 organizations and websites it utilizes to recruit arbitrators, which include PIABA, Working Mother Magazine, and more.

Moreover, FINRA offers explanations for how their neutral policy may reflect a less diverse panel despite their substantial efforts of diverse candidates.  It cites the “reality” of “win rates increas[ing] or decreas[ing] depending upon the controversy involved, market events and counsel.”  Also, FINRA’s emphasis on educational and experience requirements for arbitrators paired with the time commitment appeals to retirees.

In July, FINRA formed a Dispute Resolution Task Force. The task force was formed “to suggest strategies to enhance the transparency, impartiality, and efficiency of FINRA’s securities dispute resolution forum for all participants.”  In Fall 2015, the task force plans to make recommendations to FINRA’s Standing Board Advisory Committee: the National Arbitration and Mediation Committee (NAMC). Currently, the task force is soliciting information and viewpoints from the general public and arbitration participants by email at DRTaskForce@finra.org.