Wachtell:SEC Charges Reinforce Importance of Internal Controls Around Stock Buybacks

On October 15, the SEC announced settled charges against Andeavor for alleged internal controls violations relating to a stock buyback plan implemented ahead of Andeavor’s acquisition by Marathon Petroleum in 2018.  The SEC’s order found that the parties had discussed a transaction over a number of months in 2017 but suspended talks in October.  The companies’ CEOs agreed to resume discussions in late January and scheduled a meeting for February 23.  Two days before the meeting, Andeavor’s CEO directed its CFO to initiate a $250 million stock buyback plan, and the company executed a Rule 10b5-1 repurchase plan on February 23.  According to the order, Andeavor repurchased 2.6 million shares of stock at an average price of $97 per share, and in April the parties announced a transaction that valued Andeavor at more than $150 per share. 

          Andeavor’s Board-authorized share repurchase program required that any repurchases comply with the company’s securities trading policy, which prohibited repurchases while Andeavor was in possession of material non-public information.  The SEC’s order found that Andeavor failed to maintain internal accounting controls that provided reasonable assurance that the buyback complied with Andeavor’s policy.  The SEC found that Andeavor undertook an informal process for evaluating the materiality of the negotiations but failed to discuss with the CEO the likelihood that a deal would be reached.  As part of the settlement, Andeavor agreed to cease-and-desist from violations of the internal controls provisions of the Securities Exchange Act and to pay a $20 million civil money penalty, without admitting or denying the SEC’s findings.

The case illustrates the SEC’s continued focus on internal controls violations as an avenue for enforcement action and the ex-post scrutiny that the SEC may impose on stock buybacks and other securities transactions that occur close in time to the announcement of a significant merger or acquisition.  During the pendency of M&A discussions, companies often need to make materiality determinations in the context of stock buybacks and whether to impose trading blackouts on directors, officers or other insiders, among other matters.  These are highly fact- and context-specific determinations that require careful consideration of a number of factors that bear on a probability/magnitude assessment of the possible transaction, including the significance of the transaction to the company, the status and level of discussions at the time, and the likelihood that a transaction may ultimately be agreed.  When a transaction does materialize, these issues may be judged—fairly or not—with the benefit of hindsight.

The SEC order highlights the importance of engaging in a formal and thorough analytical process prior to initiating stock buybacks and conferring with anyone reasonably likely to have material information regarding significant corporate transactions, and is a reminder that stock buybacks and other securities transactions should always be undertaken with caution whenever M&A discussions are underway.  Particularly if a deal is reached, these transactions may be scrutinized after the fact.