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The Blind Men and the Elephant: How In-House Counsel Might See Dodd-Frank Differently Part 3: The Energy Sector
This is the third in a series of articles that will explore the reach of the Dodd-Frank Act as it impacts in-house counsel. The Dodd-Frank Wall Street Reform and Consumer Protection Act promises to remake the U.S. financial landscape by improving accountability and transparency in the financial system, ending “too big to fail” government bailouts and protecting consumers from abusive financial services practices. But the challenges are vast since many industries together shape the financial system. As a measure of just how difficult those challenges are, consider that although the act turns a year old this month, many of the implementing rules and regulations have yet to be hammered out, leaving the impacted industries—and their in-house counsel—in limbo.
In the energy sector—where attorney John Leonti of Troutman Sanders LLP in New York concentrates his practice—the broad authority granted to federal regulators under Dodd-Frank means the full impact of its changes will not be clear until the regulatory implementation of the act is complete—something that may not happen for another six months or more.
“The CFTC [Commodity Futures Trading Commission] actually issued an order to extend the effective time for the rules because all the rules have not been written yet or finalized,” Leonti says. “There’s still a large amount of rules out there that need to be finalized. The CFTC has certainly made a major undertaking and published lots and lots of rules and really did a pretty good job of getting as much done as possible, but I think it was just an aggressive time frame to get everything finalized in a year’s time.”
Leonti singles out several titles in the act as potentially having great effect on how the energy sector navigates the waters of financial reform. Chief among them is Title VII, the Wall Street Transparency and Accountability Act, which creates a new regulatory framework for swaps and over-the-counter (OTC) derivatives in the hopes of removing the perceived systemic risk in those markets. Since many energy companies use swaps as a commercial hedge only, they have traditionally been exempt from various capital and margin requirements. Depending on how they are defined under Title VII, however, that could change.
Being defined as a “swap dealer” or “major swap participant” would subject energy companies to a number of obligations, including clearing requirements, registration requirements, minimum capital standards, margin requirements for uncleared swaps, record-keeping obligations and business conduct standards. This could translate to significant headaches for in-house counsel, particularly at the smaller utilities Leonti classifies as “end-users” that may not have faced such stringent requirements in the past.
“For the end-user, what [in-house counsel] has to really start to pay attention to is that they may not ‘be regulated,’ but they need to understand the regulations in order to just more generally participate in the market [and] to understand where the banks and the major swap participants will be coming from,” Leonti says. “And then, too, there are some record-keeping and reporting requirements that they will be subject to, and they are going to want to make sure they follow those rules and regulations.”
Leonti adds that the proposed rules around the definitions of swap dealer and major swap participant currently under consideration by the CFTC seem to indicate that those energy companies that traditionally were commercial hedgers will still be considered that way under Dodd-Frank. If a traditional utility continues to behave as a traditional utility, he says, it is unlikely that it would be considered a swap dealer or a major swap participant.
Another area in which Leonti suggests energy company attorneys would do well to ensure their employers are current with the law is internal reporting of corporate wrongdoing. Title VII also provides for incentives for whistleblowers to report allegations of wrongdoing to the CFTC (Title IX has similar provisions in the context of securities reform). These incentives are in the form of monetary recoveries for whistleblowers of 10–30 percent of sanctions recovered in actions involving $1 million or more. While Leonti doesn’t foresee a rash of whistleblower actions in the energy sector, he says companies should consider updating or creating the necessary framework to prevent all types of fraud and manipulation and ensure proper procedures are in place to immediately self-report any incidents that could lead to monetary sanctions.
“First and foremost, there is a need to recognize that your policy manuals, your trainers and other folks are going to have to be updated to, at the very least, put forth the new requirements to let it become known that there is a whistleblower law out there,” Leonti says. “The second thing is, it’s another avenue where the company could be exposed to liability, and whenever there is that potential out there, there needs to be some vigilance on the part of in-house counsel and compliance folks to make sure that you are following the act, and also that you don’t have to worry about an employee blowing the whistle on you.
“But you still want to make sure that there are clear policies and procedures,” Leonti adds. “If you give folks a road map to report wrongdoing, I think you’ll mitigate your likelihood of finding yourself in front of the CFTC as the result of a whistleblower action.”