The SEC, CCOs and Compliance Programs

Compliance programs, Chief Compliance Officers and liability have been the subject of a great deal of debate in recent months. Members of the Commission, for example, debated charging decisions regarding CCOs last year in comments that must have made those holding compliance positions yearn for another profession despite the intentions of the Commissioners.

At the same time, the SEC has over the years stressed compliance and its potential to minimize liability. Over a decade ago, for example, the Commission issued what is generally known as the Seaboard release, an Exchange Act Section 21(a) report of an investigation discussing cooperation and compliance that might minimize or eliminate liability. In 2012 the SEC, along with the DOJ, issued A Resource Guide to the U.S. Foreign Corrupt Practices Act (here). The Guide, built on Seaboard and concepts taken from the U.S. Sentencing Guidelines, identifies five key points regarding compliance programs: 1) Establishing an effective tone at the top of the organization; 2) adopting an appropriate code of conduct; 3) assigning responsibility; 4) training personnel and updating systems; and 5) third party due diligence.

While the Guide and its basic building blocks focus on the FCPA, the principles articulated regarding compliance programs are fundamental to virtually any corporate program. Indeed, following the issuance of the Guide, Associate Director of Enforcement Stephen Cohen emphasized those principles as the basics of effective compliance (here).

Andrew Donohue, Chief of Staff, in remarks delivered May 20, 2016 titled “New Directions in Corporate Compliance,” (here) also focused on compliance. There Mr. Donohue approached the question from the viewpoint of a CCO. He began by articulating four basic points that should be considered when evaluating a corporate compliance program:

Integrity and personal responsibility: The effectiveness of a corporate compliance program is a function of “the integrity of those people you have in your organization and their ownership of personal responsibility for themselves and the areas for which they are responsible,” according to Mr. Donohue. Without the right people, the chances of having an effective program diminish.

Culture: This is a critical point Mr. Donohue noted. The culture of the organization must be one of “always doing the right thing, not tolerating bad practices or bad actors is essential. The culture should encourage people to ask questions and to discuss openly what is the proper response . . .” In this regard there should be a correlation between ethical behavior and the reward structure.

Keep it simple and intuitive: The policies and procedures that make up the system should be simple, straight forward, written in plain English and “intuitive to those that have to comply with them.”

Role of technology: Technology provides opportunities for eliminating human error, providing increased testing and monitoring. At the same time it is not a substitute for individual responsibility, Mr. Donohue noted.

Complexity: As firms become more complex it can be more challenging to develop and implement effective compliance programs. For example, the firm may have a number of computer systems which do not effectively communicate with each other. The organization may have a number of complex areas. It is critical that there be not just those with segregated duties but personnel who understand how it all works.

While these principles are the predicates for a compliance system, for the CCO a series of pragmatic points are key. Those, according to Mr. Donohue, include:

  • Knowledge of business: The CCO should know the business better than those who run it and have a deep knowledge of the regulatory regimes under which the organization operates;
  • Risks: It is essential to identify the key risks faced by the organization;
  • People: The CCO must understand and appreciate the people and their focus;
  • Systems: It is critical to understand the systems employed, their limitations and the people involved with them; and
  • Resolution: When an issue is identified it must be addressed and resolve quickly.

Perhaps the final point is most important. The effective CCO must constantly be asking “What am I missing?” Stated differently, the system must, as the Guide notes, be constantly evaluated and updated. If that is done it can improve the functioning of the business. In addition, if an issue arises which comes to the attention of the SEC or another regulator, the organization will be able to follow the advise of Mr. Cohen – address the issue first by pointing to the effective compliance program of the organization; then discuss the question as an outlier rather than waiting to the remediation stage of the discussion to mention compliance as do many firms. That approach argues for a much more favorable outcome of the regulatory inquiry since compliance is a key question in any charging decision.

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Mickelson: A New SEC Rule of Insider Trading Liability?

On Friday the Manhattan U.S. Attorney and the SEC one again filed high profile insider trading cases after holding a press conference – standard fare for headline grabbing actions. And, this was a headline grabbing case: a corporate director; a Las Vegas sports gambling professional; and a celebrity professional golfer. DOJ and the SEC agree that the first two violated the insider trading laws. They also seem to agree that the third did not. Yet the golfer is named by the SEC as a “relief defendant.” If he did not violate the insider trading laws why is he named as a defendant at all?

The case

SEC v. Walters, Civil Action No. 1:16-cv-03722 (S.D.N.Y. Filed May 19, 2016) names as defendants William T. Walters and Thomas C. Davis. Mr. Walters is the Chairman and CEO of The Walters Group. He is a professional sports bettor. Mr. Davis was a director of Dean Foods Company and a member of the audit committee. He was also a member of a group of Darden shareholders trying to institute change at the company. The parallel criminal case names Mr. Walters as a defendant; Mr. Davis pleaded guilty and is cooperating with the government.

According to the SEC, from 2008 through 2012 Mr. Davis repeatedly tipped his friend William Walters in advance of certain corporate events related to Dean Foods. The tips, for example, came in advance of six quarterly earnings announcements. Mr. Davis also tipped his friend in advance of the spin-off of a profitable Dean Foods subsidiary, The WhiteWave Foods Company. In addition, the director provided Mr. Walter, in 2013, with information he obtained on a confidential basis from a group of investors seeking to institute corporate change at Darden Restaurants, Inc.

As he was tipped Mr. Walters traded profitably. In some instances those trades were placed through two entities. One was the Walters Group, a partnership of Mr. Walters and his wife. The other was Nature Development B.V., and off-shore company indirectly controlled by Mr. Walters. Overall the trading netted him at least $40 million in profits. In exchange for the inside information Mr. Walters aided Mr. Davis with his financial difficulties, furnishing him with almost $1 million. The SEC’s complaint alleges that the defendants violated Exchange Act Section 10(b), requesting the usual remedies.

Mr. Walters, in addition to reaping large profits, also tipped professional golfer Philip Mickelson in July 2012 about the Dean Foods spin-off, according to the complaint. At the time Mr. Mickelson owed Mr. Walters money from gambling. Mr. Mickelson traded, reaping profits of about $931,000. The complaint does not allege that Mr. Mickelson knew the information furnished to him came from a breach of a duty for a personal benefit. Rather, Mr. Mickelson is named only as a relief defendant, along with the Walters Group and Nature Development B.V. The complaint claims that each of the relief defendants has gains over which they have no legitimate claim. Disgorgement of those gains is sought.


The impact of Newman is clearly present. In that decision the Second Circuit held that to establish illegal tipping the DOJ or SEC must allege and prove that the tippee knew the inside information came from a breach of a duty for a personal benefit. The SEC’s complaint goes to length to establish these elements as to the Davis-Walters tips, specifying that Mr. Davis was a corporate director who had such a duty, that Mr. Walters knew this fact and that he handsomely rewarded his friend for the inside information with payments totaling about $1 million at times when he was in desperate financial straights.

No such allegations are made with regard to Mr. Mickelson. Indeed, there is no allegation that the pro golfer knew anything about the source of the information other than it came from the professional sports gambler who gave it to him. The allegations, accordingly, do not even begin to approach the Newman requirements.

Why then is Mr. Mickelson named at all? The complaint states that Mr. Mickelson, and each relief defendant “received gains from trades based on material nonpublic information, over which they each have no legitimate claim.” Therefore “it is not just, equitable, or conscionable for them to retain the funds.” To be sure this claim is true as to The Walters Group and Nature Development. There Mr. Walters use his control over each entity to trade in their accounts in violation of Section 10(b). The profits in those accounts are the product of Mr. Walters’ claimed illegal trading.

That claim is not true as to Mr. Mickelson, however. To the contrary, there is no asserting that Mr. Mickelson, in placing the trades, violated Section 10(b). There are no facts which equate his position with that of the two controlled entities which served as shills for Mr. Walter’s alleged illegal trading. The is no suggestion that Mr. Mickelson was controlled or a shill.

Absent allegations that he violated the insider trading laws or served as a shill and repository for Mr. Walter’s alleged illegal trading profits there does not appear to be any reason for Mr. Mickelson to be named as a party – unless the SEC is rewriting insider trading law to prohibit anyone from trading while in possession of inside information even if they do not know the information is inside information. If that is the new SEC rule, then it is truly time for Congress to step in and write an insider trading statute rather than abdicating the field to the courts and the Commission.

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