Wall Street bonuses have been the subject of much debate and criticism as the market crisis has unfolded. The public has expressed outrage; Congress has held hearings and imposed some limits; and the Administration has appointed a Bonus Czar.

Bank of America, in acquiring Merrill Lynch, tried a different approach: Shhh! Don’t tell anyone, not even the shareholders voting on the deal. The SEC found out. It filed and enforcement action. It seems that keeping things like huge bonuses quiet when soliciting votes for a merger violates the proxy provisions of the federal securities laws. SEC v. Bank of America Corporation, Case No. 09 CV 6829 (S.D.N.Y. Filed Aug. 3, 2009).

The Commission claims Bank of America and Merrill Lynch concealed from shareholders voting on the acquisition of the broker by the bank an agreement under which Merrill executives would be paid huge bonuses. According to the complaint, BA and Merrill negotiated the primary terms under which the brokerage firm would be acquired on September 13 and 14 in the wake of the Lehman Brother’s collapse. One of the key items was the agreement to pay discretionary year end bonuses for 2008 to Merrill officers and employees. The bank agreed that Merrill could make payments up to $5.8 billion with a recorded current year expense of up to $4.5 billion. Subsequently, the board of each company approved the deal. It was announced on September 15, 2008.

After the announcement, the parties negotiated the merger agreement. The text of the agreement stated that Merrill did not have authority to pay discretionary bonuses to its employees without the prior written consent of BA. This section, called the Forbearance Provision, referenced a list of exceptions. That list contained, among other things, the agreement approved by the two boards of directors regarding the payment of discretionary bonuses to Merrill employees.

On November 3, 2008, BA and Merrill mailed proxy statements regarding the merger to shareholders. The merger agreement was attached but not the list of exceptions. The text of the proxy agreement summarized the terms of the Forbearance Provision, but not the list of exceptions. The shareholder meeting was set for December 5, 2008.

Merrill’s compensation committee approved a schedule for the bonus pool with final review set for December 8 followed by payment on December 31. Merrill’s management also put together a plan to pay bonuses to its top five executives who were not covered by the agreement with BA, although the bank was aware of this plan. Those executives had not been paid a bonus the prior year because of the poor performance of the firm. The then-current performance was even worse.

The merger was approved on a vote of the shareholders. Then, Merrill gave final approval to employee bonuses, but withdrew the proposal for the five senior executives.

The complaint claims that the proxy statements furnished to voting shareholders were false and misleading regarding the Merrill bonuses in three respects:

1) The statements constituted a representation by BA that under the merger agreement Merrill was only permitted to make required payments to employees such as salary and benefits, not discretionary bonuses;

2) The statements created the impression Bank of America had not given written consent to the payment of discretionary bonuses; and

3) The $5.8 billion in discretionary bonuses constituted nearly 12% of the $50 billion that Bank of America agreed to pay for the acquisition, nearly 30% of Merrill’s stockholders equity and over 8% of the broker’s total cash and cash equivalents.

The complaint alleges violations of Section 14(a) and Rule 14a-9. The case is based on an investigation coordinated with the U.S. Attorney’s Office, the FBI and the Office of the Special Inspector General for the Troubled Asset Relief Program.

To settle the action, Bank of America consented to the entry of a permanent injunction prohibiting future violations of Section 14(a) and Rule 14a-9. The firm also agreed to pay a civil penalty, the amount of which is not disclosed in the SEC’s releases. See Lit. Rel. 21164 (Aug. 3, 2009). Bloomberg reports that the fine is $33 million. Apparently BA and Merrill got the publicity anyway.