BofA, the SEC, and the Merrill Lynch Bonuses: BofA Responds

BofA has filed its "MEMORANDUM OF LAW ON BEHALF OF BANK OF AMERICA CORPORATION", a document filed at the court's direction in connection with the proposed settlement between the SEC and BofA over the disclosure of the bonuses paid by Merrill Lynch just before the merger closed.  The memorandum sets out BofA's side in the case.

The document emits a bit of a tone of indignation.  Why not?  BofA settled a case on questionable materiality grounds (something we asserted on this Blog) while agreeing to pay a not insubstantial penalty of $33 million.  For all of its troubles, the financial institution was treated to a raft of bad publicity and a judge demanding to know more.

Yet having said that, the memorandum is curious.  It is a document that argues for complete exhoneration.  As the memorandum notes:

• First: There was no false or misleading statement or omission in the Proxy Statement. The Proxy Statement accurately described the terms of the pertinent forbearance or "negative covenant" in the Merger Agreement. That provision was not – as the SEC alleges, see Compl. ¶ 3 – a "representation that Merrill was prohibited from making [year-end] bonus payments."

• Second: The intention of Merrill Lynch & Co., Inc. ("Merrill Lynch") to pay incentive compensation for 2008 was disclosed and was part of the "total mix" of information available to shareholders. In each of the quarterly reports publicly filed by Merrill Lynch in 2008 – which were part of the Proxy Statement, as incorporated by reference under the SEC rules – Merrill Lynch disclosed in both its financial statements and the accompanying discussion and analysis that it was accruing compensation and benefits expenses of roughly $3.5 billion each quarter. 

• Third: It was widely understood from Merrill Lynch’s public disclosures that Merrill Lynch intended to pay multi-billions of dollars in year-end incentive compensation. In the seven weeks from the signing of the Merger Agreement to the December 5 shareholder vote, both before and after the Proxy Statement was sent to shareholders, there was an extensive amount of media coverage in major newspapers, on television, and over the internet concerning Merrill Lynch’s year-end incentive compensation. Those media – ranging from The New York Times to Bloomberg News to NBC’s Today Show to Fox News – all uniformly reported that Merrill Lynch was expected to pay multi-billions of dollars in year-end incentive compensation. There were no media or analyst reports to the contrary. In fact, the incentive compensation that Merrill Lynch actually paid for 2008 was precisely in line with its quarterly accruals and with this widespread and uniform market expectation.

In other words, the SEC has mischaracterized the facts in the complaint, the BofA has done nothing wrong, and the Bank ought to be entirely exonerated under the facts of the case.

Then why agree to pay $33 million?  The memorandum describes it as a "constructive conclusion to this matter."  Doing so prevents the Bank from suffering through "the unnecessary distraction of a protracted dispute with one of its principal regulators at a time of uncertain and difficult market conditions."  In other words, the Bank is willing to give away $33 million (of shareholder's money or taxpayer's money, you decide), to avoid a "distraction." 

Joe Grundfest, in his affidavit, puts a more complete spin on things.  He provides the following explanation for accepting the settlement:  

• First, Bank of America is a highly regulated entity. It can be imprudent for regulated entities to engage in protracted litigation with their regulators. Second, Bank of America is active in the retail market and relies on access to financial markets for capital funding. Reputational capital is valuable in these markets. Quickly resolving disputes that have the potential to impair brand value can be a rational strategy. Third, Congress and the Administration have an ongoing interest in financial services regulatory reform. There can be value in resolving disputes that can influence the course of this public policy debate. Fourth, as is the case in every major potential lawsuit that presents a risk of significant litigation costs or material management distraction, it can be prudent to resolve the matter so as to minimize these cost and allow management to focus on forward-looking concerns likely to generate greater shareholder value.

While Joe's explanation is better than the "distraction" explanation offered in the memorandum, it is still a generic statement that would apply to any hilgh profile piece of litigation with almost any government agency.  In short, its not a particularly specific explanation as to why a company receiving TARP funds is giving away $33 million.

The trial judge in general must determine the fairness of the settlement.  Paying $33 million by a bank receiving funds under TARP that is entirely innocent may not be fair. 

Moreover, the SEC needs to reexamine the settlement.  BofA has apparently thrown down the gauntlet and all but said that the SEC is wrong on the merits.  It is not unlike those defendants who disavow a settlement after it is executed and made public.  There is little the SEC can do about it except drop the settlement.  Surely that will need to be considered in this case. 

Comments

[Herrick Lidstone]

One interesting thing about the District Court's inquiry into the settlement -- had the District Court simply accepted the settlement, BofAm would not have been able to admit or DENY the allegations in the SEC's complaint. By making the SEC and BofAm defend the settlement, the District Court gave BofAm the opportunity to deny everything -- much more valuable to it than the $33MM of taxpayer/shareholder money.