FINRA Rule 2290 Aims to Increase Transparency of Fairness Opinions
On October 11, 2007 the SEC approved FINRA's new Rule 2290 regarding the preparation of fairness opinions and the disclosures required in fairness opinions. The rule, which began to take form in 2004 and was opened for comments in early 2006, was fast tracked for approval by the SEC. While Rule 2290 is officially applicable only to member firms of FINRA, it is likely to become a market standard by which all fairness opinions are evaluated.
The purpose of the new rule is to address increasing concerns that disclosures provided in fairness opinions may not sufficiently inform shareholders of potential conflicts of interest that may exist among the parties to a deal, those advising on the deal, and those opining to the fairness of the deal. Unfortunately, avoiding the appearance of a conflict is not quite the same as avoiding a conflict. While the new rule provides for added transparency, it does not eliminate potential conflicts of interest.
The portion of the new rule related to disclosures [2290(a)] is applicable if the FINRA member issuing the opinion "knows or has reason to know that the fairness opinion will be provided or described to the company's public shareholders" and covers the following general topics:
- Contingent Compensation. Section 2290(a)(1) of the rule requires that the firm issuing the fairness opinion must disclose any contingent compensation to be received upon successful completion of the transaction. This includes contingent compensation received for rendering the fairness opinion, serving as an advisor or for any other reason so long as payment is contingent on closing the deal. It is common for a firm to be compensated with fees contingent upon the completion of the deal when acting in an advisory role. However, a contingent payment structure for an opinion that is intended to be strictly informative in nature only serves to create biases where there should be none.
Public shareholders would be better served if instead of simply requiring disclosure, firms were forbidden to perform fairness opinions if they are to receive any fees contingent upon the deal.
This would eliminate the ability of firms who hold an advisory role in the deal to also perform the fairness opinion - a clear conflict of interest. It is also noteworthy that the rule does not require the disclosure of the amount of the contingent fee to be received. Surely a firm receiving a $1 million contingent fee would be cause for more concern than a $50 thousand contingent fee.