A case of disappearing shares

Client shares parked at the Depository Trust & Clearing Corp. may not be as safe as you think. It's not that the threat is coming from potential theft of the shares. The problem is that the DTCC "sometimes can't keep pace," of them, according to Steven Davidoff Solomon, a professor law at the University of California, Berkeley, in an article in Wednesday's New York Times. The inability of the nation's repository for corporate shares to track its inventory — especially in cases when many of the shares are borrowed for short-selling purposes — can create a problem in the last days of trading ahead of an acquisition. Prof. Solomon cites the $1.2 billion buyout of Dole Foods in 2013 as an example. He notes that in a $115.7 million settlement of a case springing from that buyout, former Dole shareholders will receive $2.74 a share in addition to the $13.50 a share that was originally paid in the deal. But some of those shareholders may not get the extra payment, the author writes, because the number of shares involved are in dispute. "In the settlement, 4,662 people and entities claimed 49.164,415 shares at $2.74 per share," Prof. Solomon writes. "There is just one problem: Dole had only 36,793,758 shares outstanding." The underlying issue, he says, is that DTCC systems are not up to the task of keeping track of all the borrowing activity going on in the shares custodied. In the Dole case, the judge in the case essentially "threw up his hands, saying the plaintiffs could pay the brokers their money [which would be passed along to the beneficial owners] and be done with it." But Prof. Solomon notes "there is not enough money" to do that. Under the ruling, he said, "those third parties who unknowingly bought shares that were shorted will not be paid. Instead, the holders of the shares that were loaned out will be paid. Those who bought shorted shares will be left to look to the shorters." The investors who shorted, he said, "now could be on the hook for millions of dollars — if they can be tracked down. And that's a big if." There is no ready solution to the problem unless Wall Street invests money into DTCC systems, the professor concludes.