WASHINGTON - The National Association of Bond Lawyers has finished a draft of the most comprehensive municipal bond disclosure guidance for attorneys and other market participants in more than 15 years, and is asking various market participants for comments before finalizing it.
The draft - which took a team of about 15 lawyers led by John McNally, a partner at Hawkins Delafield & Wood LLP, almost three years to complete - is an update of NABL's Disclosure Roles of Counsel. The book was first published in 1987 but has not been revised since 1994.
The 1994 edition of the book focuses mostly on primary market disclosure and was written prior to the Securities and Exchange Commission's adoption of continuing disclosure amendments to its Rule 15c2-12 on disclosure.
The bond attorneys hope to finalize the updated version so that it is available for purchase in September.
The project is sponsored jointly by NABL and the American Bar Association and includes reporting by McNally, Paul Maco of Vinson & Elkins LLP, and John Gardner of Hogan & Hartson LLP, as well as contributions from about a dozen other attorneys.
The third edition, which will include a foreword by Robert Fippinger, a partner at Orrick Herrington & Sutcliffe LLP, is a complete restructuring of the earlier editions and is intended to assist lawyers in addressing two principal issues: what role-specific responsibilities counsel should assume for the content of disclosure and related opinions as well as what advice counsel should provide to their clients for disclosure.
"What's unique here is how the role of counsel changes depending on who the client is," McNally said.
One key new section, which summarizes and analyzes the disclosure roles of issuers, includes an analysis of the major municipal market enforcement actions brought by the SEC since the mid-1990s - from the Orange County, Calif., bankruptcy to the ongoing enforcement actions tied to Jefferson County, Ala.'s securities and securities-related swaps.
Lawyers who worked on the update said that some of the most extensive discussion about disclosure issues stemmed from Orange County's bankruptcy filing in late 1994 following huge losses from risky investments that were never disclosed to investors and other market participants, and San Diego's failure, several years later, to disclose critical information about its pension problems.
In the case of Orange County, the book notes that the so-called 21(a) report issued by the SEC provides "the most authoritative guidance" regarding the responsibilities of an issuer's elected or appointed governing body or board in reviewing primary market disclosures.
Specifically, the 21(a) report said that in reviewing official statements prior to a bond sale, a public official may not authorize disclosure that the official knows to be false and may not authorize disclosure while recklessly disregarding facts that indicate that there is a risk that the disclosure may be misleading.
"What is meant by 'recklessly?' " the authors of the draft ask. "The Orange County report states that a public official has acted recklessly if he or she "has knowledge of facts bringing into question the issuer's ability to repay the securities' and, notwithstanding such knowledge, [he or she] fails to take steps 'appropriate under the circumstances to prevent the dissemination of materially false or misleading information regarding those facts.' "
In the case of San Diego, the draft explores the SEC enforcement actions, which include its findings that the city violated securities laws in connection with five of its bond offerings sold between 2002 and 2003 by failing to disclose material information regarding substantial and growing liabilities for its pension plan and retiree health care as well as its ability to pay for them.
The lessons from San Diego, the draft said, illustrate that issuers should carefully consider whether to implement appropriate disclosure controls and procedures that could include disclosure training for officials responsible for producing, reviewing and approving disclosures as well as steps to ensure accountability for the review of relevant disclosure and compliance.
There are several additional lessons from these and the other major enforcement actions of the past 15 years, in terms of an issuer's liability in an SEC enforcement action, according to the draft.
First, though municipal issuers are not subject to "absolute liability" like corporate borrowers - in which they can be held legally liable for any material misstatement or omission - muni issuers can be liable to an SEC enforcement action for negligently misstating facts or providing misleading disclosures, and also can be liable in a civil action by a third party for recklessly doing so, NABL said.
"Consequently, an issuer's objective under the antifraud provisions is to follow diligent procedures to prevent material misstatements and omissions in the information in its offering documents or otherwise made available to the market," the draft says.
Another principle is that if issuer officials charged with preparing or approving an official statement have actual knowledge of material misstatements or omissions, they cannot defend themselves by saying that lawyers and accountants were hired to prepare an offering document and either did not discover the misstatement or omissions or knew about them but did not push for their disclosure. An exception here is if the misstated or omitted fact is a legal conclusion or "appropriate accounting characterization."
The book also stresses that a misstatement or omission of a fact may be material, even if it does not cause the issuer to default on the security, but rather affects the bond's rating, market yield, or risk of early retirement, among other things.
The book also addresses a number of ongoing primary and secondary market disclosure issues, among them the trend among underwriters to forgo having their counsel write so-called 10b-5 letters that certify there are no material omissions or misleading statements in an issuer's official statement, and instead relying on such letters written by an issuer's disclosure counsel.
By not hiring counsel to write their own separate 10b-5 letters - as they normally would - the underwriters are outsourcing to the issuer's counsel one element of their due diligence, possibly creating a liability gap from the perspective of a plaintiff's lawyer or the SEC enforcement staff, some bond attorneys have said.
In such a case, the disclosure counsel will write a 10b-5 letter on behalf of the issuer and send a copy of it to the underwriter attached to a so-called reliance letter. The 10b-5 reference is to a section of the federal securities laws that prohibits a firm or individual from intentionally deceiving investors about securities.
The reliance letter says that the underwriter may rely on the 10b-5 letter as if it was written for the underwriter, but it cautions that receipt of the letter does not create an attorney-client relationship and that, had the disclosure counsel undertaken the due diligence review for the broker-dealer, it may have adopted different policies.
The NABL draft warns that the delivery of such a reliance letter "raises important concerns" given that the duties of disclosure counsel run directly to the issuer, not the underwriter, and that the issuer's interest may differ from the underwriter's interest in the disclosure process. One concern is that the disclosure counsel has not been engaged to perform any due diligence on behalf of the underwriter.
The draft also notes that the SEC's advice in the 1988 proposing release of Rule 15c2-12 that underwriters obtain 10b-5 letters from their own counsel. This guidance "may not be satisfied" if the underwriter obtains such a letter only from disclosure counsel.
"Nevertheless, if an underwriter is advised that it is entitled to rely on the special disclosure counsel opinion, this may constitute an important element on an underwriter's defense to a charge of scienter, recklessness, or negligence," the draft says.