Calling FCPA and anti-corruption enforcement a “core priority of the Department of Justice,” Mythili Raman, Acting Assistant Attorney General, Criminal Division, recounted the Department’s successes across the nation and its coordination around the globe. “Keynote Address at the Global Anti-Corruption Congress,” Washington, D.C., June 17, 2013 (here). Since 2009 the DOJ has resolved over 40 corporate corruption cases. Those include nine of the top ten largest settlements in terms of penalties in the history of the Act, resulting in about $2.5 billion being paid in monetary fines.

FCPA enforcement is not, however, just about corporate settlements, the Acting Deputy AG emphasized. Rather, a key focus is the prosecution of individuals across the country. Since 2009 the Department has successfully secured the conviction of over three dozen individuals. Indeed, over the last two months FCPA charges have been brought, or guilty pleas obtained, against 12 executives and others. The “message” from these cases, is clearly that “we are now – more than ever – holding individual wrongdoers to account.”

The U.S. is not acting alone in these efforts, Ms. Raman emphasized. To the contrary, the Department is working closely with countries around the world. For example, at the conclusion of the recent settlements between the DOJ, the SEC and French oil and gas giant Total, French enforcement authorities requested that the Chairman, CEO and two other company executives be referred to the French Criminal Court for violations which include the foreign bribery law. This is the first coordination by U.S. and French enforcement officials on a bribery case.

At the same time the DOJ is working closely with the OECD and others around the globe. The Department is assisting the OECD with its reviews of programs in other countries. Its program is also subject to analysis by the organization. The recently published Guide to the FCPA, prepared by the Department and the SEC, is the outgrowth of one such review. It may be today “the most comprehensive effort ever undertaken by either the Justice Department or the SEC to explain our approach to enforcing a particular statute” the Acting Assistant A.G. noted.

The Department is also coordinating with officials from other countries. In February of this year the DOJ, SEC and FBI hosted an “unprecedented” meeting of 130 judges, prosecutors, investigators, and regulators from more than 30 countries, multi-development banks, and international organizations” around the world for training and an exchange of ideas in combating foreign corruption. The conference also furthered specific prosecutions. From all of this there is a “momentum of so many countries . . . I am certain that now is the time to enhance, not diminish, our anti-corruption efforts. The fight against global corruption is a critical mission. . . “ the Acting Assistant Attorney General declared.

ABA Seminar: Fifth Annual FCPA Update: Protecting Your Business in the Future: Lessons from the New DOJ-SEC FCPA Guide, June 19, 2013 from 1:00 -2:30 p.m. EST. The discussion will focus on building effective compliance systems and conducting M&A due diligence. Co-moderators: Thomas Gorman and Frank Razzano. Panel: John Buretta, Principal Deputy to the Assistant AG, DOJ; Charles Cain, Deputy Director, FCPA Unit, SEC Division of Enforcement; Catherine Razzano, Assistant General Counsel, General Dynamics Corporation; Steve Siegel, Senior Counsel, Northrop Grumman Corporation; Ryan Ong, Director of Business Advisory Services, U.S. China Business Counsel. Live in Washington, D.C at 600 14^th St. N.W., Penthouse (no charge for ASECA members attending live in Washington who pre-register by sending an e-mail to cvitko.diane@dorsey.com). Webcast nationally by the ABA and available in other Dorsey & Whitney offices. For further information please click here.

SEC v. All Know Holdings, Ltd., 11 C 8605 (N.D. Ill. Opinion issued June 10, 2013) is one of the SEC’s aggressive insider trading actions, filed initially based largely on “suspicious trading” and information and belief. The case centers on the November 2011 announcement by Pearson plc that it would acquire China based Global Education & Technology Group, Ltd. The SEC filed suit within days of the announcement, charging the company and others with insider trading in violation of Exchange Act Section 10(b).

Clearly missing from the complaint was a key element – a source of the inside information. After litigating the case since it was filed in late December 2011 the SEC faced the same difficulty in responding to summary judgment motions. On one it prevailed. On the other it did not.

Defendant Youghui Zhang, U.S. citizen born in China, and the company, its principal and her friend moved for summary judgment. Mr. Zhang, who did postdoctoral research at Albert Einstein College of Medicine and Columbia, returned to China in October 2010 to start a gene diagnostics company. During the process he again was employed by Global Education, a company founded by his younger brother Yongqi “David” Zahng and his wife, Xiadong “Veronica Zhang. The day before the take-over announcement he purchased 7,900 American Depository Shares of the company on the NASDAQ. Nevertheless, he argued that summary judgment should be granted in his favor since he had no knowledge of the take-over and the SEC failed to identify a source of the inside information.

In opposing the motion the SEC cited five key points:

1) Mr. Zhang’s office at the firm is on the same floor as that of his brother and sister-in-law;

2) He had numerous communications during the period with his brother and sister-in-law as well as others at the firm;

3) Defendant Zhang previously had not purchased shares of the company;

4) Mr. Zhang purchased his shares the day before the deal announcement;

5) The share purchase price was more than three times his annual salary.

These points were bolstered by two others. During discovery Mr. Zhang failed to produce any evidence about the “numerous” discussions he had with his brother and sister-in-law during the period despite a request by the SEC. Furthermore, he offered different explanations for his purchase of the shares during the case when questioned under oath.

The court rejected the motion for summary judgment, ruling in favor of the Commission. While the court did not draw an adverse inference against Mr. Zhang for his discovery failures, his access to inside information, failure to provide responses in discovery and differing explanations for his purchases were the key factors.

In contrast, the motion of the “All Know defendants” – the company along with Sha Chen and Zhi Yao – was granted. All Known Holdings is a British Virgin Islands company that is wholly owned by defendant Sha Chen. She is a citizen of the PRC. The company engages in stock trading, frequently taking large positions in select company shares according to the defendants. Zhi Yao is a life long friend of Defendant Chen.

In the days immediately preceding the deal announcement, the firm purchase about $950,000 worth of Global Education shares. While the position was large, after making the purchases the firm had a substantial amount of cash remaining. Those purchases were based on a trading philosophy which focused on acquiring shares of China based U.S. companies which the defendants viewed as undervalued and there research about the company. At the same time Defendant Yao also purchased shares.

In granting the All Knowing Defendants’ motion the court pointed to the failure of the SEC to cite any evidence demonstrating that the All Know Defendants knew or had contact with an insider. While the failure to identify an insider was not dispositive, the court termed it “troubling.” That failure contrasts with the detailed explanations offered by the Defendants for their purchases.

The court went on to conclude that while the SEC offered substantial evidence, it “fails to address whether the information purportedly procured by the All Know Defendants was disclosed in breach of a fiduciary duty and whether the All Know Defendants knew or should have known of the breach.” Absent evidence on this critical point the Commission cannot prevail.

Finally, the court rejected the SEC’s claim that what it viewed as obstructive conduct during discovery by the All Know defendants supported it opposition. The SEC never filed a motion bringing this conduct to the attention of the court. If it was an issue, the Commission should have moved for an order compelling discovery and later sanctions if the defendants failed to comply rather than raising this point here. Accordingly, this claim failed to support the Commission’s opposition and summary judgment was granted in favor of the All Know defendants.

ABA Seminar: Fifth Annual FCPA Update: Protecting Your Business in the Future: Lessons from the New DOJ-SEC FCPA Guide, June 19, 2013 from 1:00 -2:30 p.m. EST. The discussion will focus on building effective compliance systems and conducting M&A due diligence. Co-moderators: Thomas Gorman and Frank Razzano. Panel: John Buretta, Principal Deputy to the Assistant AG, DOJ; Charles Cain, Assistant Director, FCPA Unit, SEC Division of Enforcement; Catherine Razzano, Assistant General Counsel, General Dynamics Corporation; Steve Siegel, Senior Counsel, Northrop Grumman Corporation; Ryan Ong, Director of Business Advisory Services, U.S. China Business Counsel. Live in Washington, D.C at 600 14^th St. N.W., Penthouse (no charge for ASECA members attending live in Washington who pre-register by sending an e-mail to cvitko.diane@dorsey.com). Webcast nationally by the ABA and available in other Dorsey & Whitney offices. For further information please click here.

The Commission settled with eight mutual fund directors regarding the procedures used in the valuation of certain assets after months of litigation. In the Matter of J. Kenneth Alderman, CPA, Adm. Proc. File No. 3-15127 (June 13, 2013). The proceeding , initiated in December 2012, named as Respondents directors at four open ended funds and one closed end fund. Each fund had a board of directors composed of two interested and four independent directors. All of the independent directors were members of the audit committee, chaired by Respondent Mary Stone. The six independent directors named as Respondents were: Jack Blair; Albert Johnson; James Stillman McFadded; W. Randall Pittman; Mary Stone; and Archie Willis. Also named were directors J. Kenneth Alderman and Allen Morgan. The investment adviser was Morgan Asset Management, Inc.

The Order which initiated the proceeding centered on claims that certain assets had been incorrectly valued resulting in false filings as the market crisis unfolded. At the end of the first quarter 2007 the Funds had a combined net asset value of about $3.85 billion. Large portions of those assets were invested in complex structured products such as collateralized debt obligations and similar instruments. The assets were concentrated in below investment grade debt securities which carried inherent risks. For many of the structured products there were no readily available market quotations. As a result a large percentage of the Funds’ portfolios had to be fair valued by the boards.

Under the Policy and Procedure Manual for the Funds the directors delegated to Morgan Asset the responsibility for carrying out certain functions related to valuation of the portfolio securities in connection with calculating the NAV per share. While the Funds’ Valuation Procedures listed a series of factors to be considered, many of which were drawn from the pertinent literature, they provided no meaningful methodology or other specific direction on how to make the fair value determination.

The actual task of assigning fair values was performed by Fund Accounting, a function staffed by Morgan Keegan employees. In making their determinations of fair value, the Order alleges that no reasonable analytical method was used.

Throughout the period the directors were unaware of the methodology utilized to fair value the particular securities or types of securities, according to the Order. Likewise, the Respondent directors failed to inquire about the methodology used.

As a result of the failure by the Directors to cause the Funds to adopt and implement reasonable procedures, the NAVs of the Funds were materially misstated from the end of March 2007 through early August of that year. Thus the prices at which the open ended Fund sold, redeemed and repurchased shares were inaccurate. At least one registration statement, and other filed reports, contained NAVs that were materially misstated. The Form N-1A filed by the Select Fund for October 29 2007 that contained NAVs as of June 30, 2007 that were materially overstated, according to the Order that initiated the proceeding.

The Order alleged that the Respondents caused the Funds’ to violate: Rules 22c-1 of the Investment Company Act which makes it unlawful to sell, redeem or repurchase redeemable securities except at a price based on the current net asset value; Rule 30a-3(a) which requires that registered management investment companies maintain internal control over financial reporting; and Rule 38a-1 which requires that the registered investment company adopt and implement written policies and procedures reasonably designed to prevent a violation of the federal securities laws by the fund.

Respondents and the Commission agreed to settle the proceeding following litigation but prior to a hearing. Each Respondent consented to the entry of a cease and desist order based only on Rule 38a-1. No monetary relief was directed. The allegations in the original Order alleging violations of Rules 22c-1 and 30a-3(a) were deleted from the refilled Oder. Also deleted were claims that the NAVs of the Funds were materially misstated from the end of March 2007 through early August of that year; that at least one registration statement and other filed reports were materially misstated; and that the Form N-1A filed by the Select Fund for October 29 2007 that contained NAVs as of June 30, 2007 that were materially overstated.

ABA Seminar: Fifth Annual FCPA Update: Protecting Your Business in the Future: Lessons from the New DOJ-SEC FCPA Guide, June 19, 2013 from 1:00 -2:30 p.m. EST. The discussion will focus on building effective compliance systems and conducting M&A due diligence. Co-moderators: Thomas Gorman and Frank Razzano. Panel: John Buretta, Principal Deputy to the Assistant AG, DOJ; Charles Cain, Assistant Director, FCPA Unit, SEC Division of Enforcement; Catherine Razzano, Assistant General Counsel, General Dynamics Corporation; Steve Siegal, Senior Counsel, Northrop Grumman Corporation; Ryan Ong, President, U.S. China Business Counsel. Live in Washington, D.C at 600 14^th St. N.W., Penthouse (no charge for ASECA members attending live in Washington who pre-register by sending an e-mail to cvitko.diane@dorsey.com). Webcast nationally by the ABA and available in other Dorsey & Whitney offices. For further information please click here.

The Commission filed a settled action alleging fraud in connection with a going private transaction based on Exchange Act Section 13(e). The agency also brought its first action penalizing an exchange for regulatory filings this week.

The SEC also added a managing director of a New York brokerage firm as a defendant in its case centered on bribes paid to an official of an Argentine bank. The Manhattan U.S. Attorney’s Office filed parallel criminal charges against the same person. In addition, the Commission filed another action against an investment adviser, this time centered on the theft of assets, and three new insider trading cases. One insider trading case involved tipping by a corporate executive; another tipping by the brother-in-law of a corporate director; and a third grew out of the expert network investigation.

Finally, the Commission lost another case in the D.C. Circuit. The Court remanded a FINRA panel decision, affirmed by the Commission, for failing to consider mitigating evidence before imposing a life-time industry bar. In the district courts the agency lost a statute of limitations ruling in the wake of Gabelli in an insider trading case. It did, however, prevail on a summary judgment motion centered on Morrison issues in its high profile market crisis action against a former Goldman Sachs employee.

SEC

Alert: The SEC, in conjunction with FINRA, issued an investor alert regarding pump-and-dump stock spam titled “Inbox Alert-Don’t Trade on Pump-And-Dump Stock E-mails.”

CFTC

Remarks: Commissioner Bart Chilton delivered remarks titled “Cinema of Uncertainty” before the Institute of International Bankers, New York City (June 13, 2013). His remarks focused on the need for balance in regulation, the Volker Rule and the implementation of the cross-border rules (here).

Remarks: Commissioner Scott D. O’Malia delivered remarks titled “Taking the Time to Get it Right: the Cross-Boarder Regulatory Framework,” before the OpRisk Europe Conference, London, England (June 12, 2013). His remarks focused on the need for more time regarding the cross-border rules, the new SEF rules and the use of data (here).

Remarks: Chairman Gary Gensler delivered remarks at the Sandler O’Neill Conference, titled “Cross-border Application of Swaps Market Reform,”(June 6, 2013). His remarks focused on key aspects of market reform including transparency, clearing and oversight (here).

SEC Enforcement: Recent rulings

Statute of limitations: SEC v. Wyly, 10 Civ. 5760 (S.D.N.Y. Opinion June 6, 2013) is an insider trading case against Samuel Wyly and others centered on a scheme that is alleged to have occurred from 1992 through at least 2004. As part of the scheme Mr. Wyly and others concealed their ownership and trading activity in four companies where they had board membership and then engaged in insider trading. The Court granted a defense motion for summary judgment based on Gabelli v. SEC, 133 S.Ct. 1216 (2013). The court concluded that to the extent the transactions took place beyond the five year statute of limitations for obtaining a penalty in government actions, the Commission could not seek a monetary penalty. The court rejected the SEC’s claim that the running of the statute was halted by the doctrine of fraudulent concealment. In making that argument the “SEC fails to draw a meaningful distinction between acts of perpetration and acts of concealment . . .” Rather, the SEC relied on the very evidence used as the predicate for the fraud alleged in the complaint. The Court left open the “possibility that acts which go ‘beyond the [fraud]’ but are not directly analogous to ‘promising not to plead the statute of limitations,’ might form the basis for fraudulent concealment in an SEC enforcement action . . . “

Extraterritorial application:SEC v. Fabrice Tourre, 10 Civ 3229 (S.D.N.Y. Ruling June 4, 2013) is an action based on the settled Commission market crisis case against Goldman Sachs & Co. Defendant Fabrice Tourre is the only Goldman employee charged in connection with the action. The case centers on the sale of interests in a synthetic collateralized debt obligation by the firm. The CDO had been created at the behest of hedge fund Paulson & Co., Inc. which helped select the collateral and later shorted it. Interests in the CDO were sold to IKB Deutsche Industriebank AG and ABN AMRO Bank N.V. and unspecified domestic concerns. IKB and ABN are foreign purchasers. Mr. Fabrice’s motion for summary judgment, based on Morrison v. National Australia Bank, Ltd., 130 S.Ct. 2869 (2010), argued that the Commission’s claims under Securities Act Section 17(a) and Exchange Act Section 10(b) were barred. The Court rejected the claims. The defense motion focused on the fact that unlike Section 10(b), Section 17(a) includes an offer. That offer, when the sale is consummated, must be within the U.S. under Morrison, according to the motion. The Court rejected this theory as contrary to the statutory language. Rather, if the person making the offer is in the U. S. it is sufficient. Here there is evidence demonstrating that Mr. Tourre was primarily responsible for the fraudulent offering materials and that he participated in the marketing. The Court also granted the SEC’s cross motion, finding that there was sufficient evidence on the interstate commerce element for Section 17(a) and the domestic element of its Section 10(b) and 17(a) claims. There is no doubt that the mechanisms of interstate commerce were used the court stated. Likewise, the trade confirmations demonstrate that the transactions were concluded in the U.S.

SEC Enforcement: Filings and settlements

Weekly statistics: This week the Commission filed 4 civil injunctive action and 2 administrative proceedings (excluding follow-on actions and 12(j) proceedings).

Disclosure/fraud: In the Matter of Revlon, Inc., Adm. Proc. File No. 3-15356 (June 13, 2013) is an action involving a going private transaction which closed on October 9, 2009. On that date 46% of the shares of Revlon Class A common stock not beneficially owned by MacAndrews & Forbes Holdings Inc., which owned about 58% of the class, was tendered in the transaction. Prior to the closing of the deal the trustee of Revlon’s 401(k) plan, which held a substantial block of stock, determined that it could only allow 401(k) members to tender their shares in an exchange offer designed to reduce the debt owed to MacAndrews & Forbes if an independent third party financial adviser determined that the offer provided for “adequate consideration.” The advisor retained determined that in fact the offer did not provide such consideration. In tendering their securities, shareholders were not informed about this opinion because the company engaged in what was called “ring fending” — essentially a series of steps taken to fence off the independent directors from the opinion and preclude disclosure. With the board’s processes compromised, shareholders were told that the “Board of Directors approved the Exchange Offer and related transactions based upon the totality of the information presented . . .” The Order alleges violations of Exchange Act Section 13(e), which governs going private transactions, and the related rules. To resolve the proceeding, the company consented to the entry of a cease and desist order based on Exchange Act Section 13(e). It also agreed to pay a civil money penalty of $850,000.

Insider trading: SEC v. Shah, Civil Action No. 12-CV-4030 (S.D.N.Y.) is a previously filed action against Reema Shah and Robert Kwok. The complaint alleged two insider trading schemes. In one Reema Shah, a former mutual fund and hedge fund portfolio manager, tipped Mr. Kwok, formerly a senior director at Yahoo! Inc., regarding the then upcoming acquisition of Moldflow by Autodesk, Inc. Mr. Kwok traded and realized profits. Later Mr. Kwok tipped Ms. Shah about the then upcoming announcement of an internet search engine partnership agreement between Yahoo and Microsoft Corporation. Ms. Shaw caused certain mutual funds and hedge funds to purchase shares of Yahoo. The court entered a final judgment against Mr. Kwok. He had consented to the entry of a permanent injunction and the entry of an order barring him from serving as an officer or director of a public company. He also agreed to pay disgorgement of $4,750 plus interest and a civil penalty equal to the amount of the disgorgement. In the parallel criminal case Mr. Kwok pleaded guilty to conspiracy to commit securities fraud. He was sentenced to serve two years probation and ordered to forfeit $4,754 and to pay a fine of $1,000. See also Lit. Rel. No. 22726 (June 12, 2013).

Insider trading: SEC v. Jacobs, Civil Action No. 1:13-cv-1289 (N.D. Ohio Filed June 11, 2013) is an action against Andrew Jacobs and his brother Leslie Jacobs. The case centers on the tender offer by Sanofi-Aventis, a French pharmaceutical company, for Chattem, Inc., announced on December 21, 2009. Prior to the announcement Andrew Jacobs learned about the tender offer in a confidential conversation with his brother-in-law, a Chattem executive. He then tipped his brother who traded and, after the announcement, had profits of $49,457.21. The Commission’s complaint alleges violations of Exchange Act Sections 10(b) and 14(e). The case is in litigation. This is the eighth action brought by the Commission centered on this transaction. See also Lit. Rel. No. 22723 (June 11, 2012).

Regulatory failures: In the Matter of Chicago Board Options Exchange, Inc., Adm. Proc. File No. 3-15353 (June 11, 2013). Here the CBOE became the first exchange to be fined for regulatory failures. The proceeding centers on three key issues. First, the CBOE failed to adequately enforce the federal securities laws and its own regulations. While the exchange developed a surveillance program to identify possible violations of Regulation SHO which flagged exceptions, it consistently failed to follow-up and closed investigations despite evidence of possible violations. In this regard the exchange staff was inadequately trained. Second, the exchange interfered with a Commission enforcement investigation. During the course of a Commission investigation into possible violations of Regulation SHO, the CBOE staff advocated for the member and assisted in preparing an inaccurate Wells submission. Finally, the exchange, along with C2 Options Exchange, Inc., failed to propose rule changes until after it implemented certain trading functions. Following the commencement of the SEC’s investigation the CBOE and C2 undertook a series of remedial efforts and initiatives which the Commission considered in resolving this action. The proceeding was resolved with the CBOE consenting to the entry of a cease and desist order based on the Sections cited in the Order. C2 consented to the entry of an order based on Exchange Act Section 19(b)(1). The CBOE also agreed to pay a civil penalty of $6 million and is continuing to implement a series of undertakings.

Insider trading: SEC v. Cutillo, Civil Action No. 09-CV-9209 (S.D.N.Y.) is a previously filed action against, among others, Emanuel Goffer, a former proprietary trader at broker dealer Spectrum Trading, LLC. Mr. Goffer’s brother, Zvi, is alleged to have orchestrated an insider trading ring involving attorneys formerly with the law firm of Ropes and Gray. Those attorneys furnished inside information on take-over transactions to Zvi who in turn passed it to his brother and others. Emanuel Goffer traded on the information resulting in illicit profits of $1.3 million. To settle the action the defendant consented to the entry of a final judgment of permanent injunction prohibiting future violations of Exchange Act Section 10(b). He also agreed to pay disgorgement and prejudgment interest. The disgorgement will be off-set in part by a forfeiture order in the related criminal case. The remainder was waived in view of his financial condition. In a related administrative proceeding Mr. Goffer was barred from the securities business and from participating in any penny stock offering. In the related criminal case Mr. Goffer was convicted and sentenced to three years in prison. See also Lit. Rel. No. 22721 (June 11, 2013).

Misappropriation: SEC v Mayfieldgentry Realty Advisors, LLC, Civil Action No. 13-cv-12520 (E.D. Mich. Filed June 10, 2013). The Commission charged the investment adviser and its principals and owners, Chauncey Mayfield, Blair Ackman, Marsha Bass, W. Emery Mathews and Alicia Diaz. The adviser has long managed real estate for the fund and controls one of its bank accounts. In January 2007 MGRA agreed to purchase select shopping center properties for $4.3 million. The adviser secured a bank loan for about $4.3 million of the purchase price. At year end with only $200,000 in cash the firm could not fund the balance of the purchase. Accordingly, in January 2008 Mr. Mayfield directed his CFO to send two wires totaling $3.1 million from the fund’s account. Subsequently, reports were periodically furnished to the fund which highlighted in part the performance of the managed properties but never mentioned the money taken to pay for the shopping centers. The defendants had agreed to return the money but without informing the client. Just prior to the filing of another Commission action against the adviser, the firm finally informed the fund. The SEC complaint alleges violations of Advisers Act Sections 206(1) and (2). Mr. Mayfield and the firm settled with the Commission, consenting to the entry of a permanent injunction prohibiting future violations of the Sections cited in the complaint. In addition, they agreed to pay disgorgement of $3,076,365.88. The remaining defendants are litigating the case. See also Lit. Rel. No. 22720 (June 10, 2013).

Insider trading: SEC v. Dosti, Civil Action No. 13-cv-3897 (S.D.N.Y. Filed June 7, 2013) is the latest insider trading case stemming from the expert network inquiry. Here fund manager Victor Dosti, employed at defendant Whittier Trust Company, obtained inside information regarding the shares of Dell, Inc., NVIDIA Corporation and Wind River Systems, Inc. from his colleague, Danny Kuo. Specifically, in 2008 Mr. Kuno, as a member of a group that shared such information, obtained inside information regarding the earnings announcements of Dell. In 2009 and 2010 Mr. Kuo obtained inside information regarding the earnings of NVIDIA from Hyung Lin who obtained it from a friend at the company. Likewise, in 2009 Mr. Kuo obtained advanced information about the acquisition of Wind River by Intel from a friend at the company. In each instance Mr. Dosti caused the fund to trade, garnering profits and avoiding losses of over $724,000. The defendants settled, consenting to the entry of a permanent injunction prohibiting future violations of Exchange Act Section 10(b) and Securities Act Section 17(a). In addition, Whittier agreed to pay disgorgement of $724,051.62 along with prejudgment interest and a penalty equal to the amount of the disgorgement. Mr. Dosti agreed to pay disgorgement of $77,900 along with prejudgment interest and a penalty equal to the amount of the disgorgement. The SEC acknowledged the cooperation of Whittier in the investigation.

Insider trading: SEC v. Tomlinson, Civil Action No. CV 13-1549 (N.D. Cal. Filed June 7, 213) is an action against Bruce Tomlinson, former vice president of finance at Intermune, Inc. The case centers on the potential approval by the European Medicines Agency of an application by the company which was submitted in March 2010. By mid-November 2010 Mr. Tomlinson learned that the process was proceeding much more rapidly than had been expected. He e-mailed his friend Michael Sarkesian about this, noting that it had significant implications for the company. Mr. Sarkesian bought 400 out-of-the-money call options prior to the announcement by the Committee for Medicinal Products for Human Use of the European Medicines Agency on December 17, 2010. Following the announcement he had profits of $616,000. To resolve the case Mr. Tomlinson consented to the entry of a permanent injunction prohibiting future violations of Exchange Act Section 10(b) and the entry of an order barring him from serving as a director or officer of a public company for five years. He also agreed to pay a civil penalty of $616,000. In a separate administrative proceeding he will be suspended under Rule 102(e)(3) from appearing or practicing before the Commission as an accountant with a right to apply for reinstatement after five years. See also Lit. Rel. No. 22717 (June 7, 2013).

Related party transactions: SEC v. China Natural Gas, Inc., Civil Action No. 12-cv-3824 (S.D.N.Y.) is a previously filed action against the company, and its chairman Qinan Ji. The case centered on an undisclosed $14.3 million loan Mr. Ji authorized without board approval to a real estate company owned by his son and nephew and about which he repeatedly lied to the auditors. To resolve the case the company consented to the entry of a permanent injunction prohibiting future violations Securities Act Sections 17(a)(2) and Exchange Act Sections 13(a), 13(b)(2)(A), 13(b)(2)(B) and 14(a). The company also agreed to pay a penalty of $815,000. Mr. Ji consented to the entry of a permanent injunction prohibiting future violations of Securities Act Section 17(a) and Exchange Act Sections 10(b), 13(a), 13(b)(2)(A), 13(b)(2)(B), 13(b)(5), 15(a) and Section 304 of Sarbanes-Oxley. He also agreed to be barred from serving as a director or officer of a public company for 10 years and to pay a penalty of $100,000. See also Lit. Rel. No. 22719 (June 7, 2013).

FINRA

Investor alert: The regulator issued an investor alert titled “Alternative Funds Are Not Your Typical Mutual Funds.” The Alert cautions investors that “alt” mutual funds hold more non-traditional investments and employ complex trading strategies in comparison to more traditional funds.

Criminal cases

Bribes: U.S. v. Lujan (S.D.N.Y.) is a case in which Ernesto Lujan, a managing partner of a U.S. broker dealer, has been charged in a bribery scheme involving an official at Venezuela’s state economic development bank, Banco de Desarrollo Economico y Social de Venezuela or BANDES. Mr. Lujan was charged with one count of conspiracy to violate the FCPA, violating the FCPA, conspiracy to violate the Travel Act and violating the Travel Act. The charges are based on the same scheme alleged by the SEC in its previously filed action, SEC v. Clarke, Civil Action No. 13 CV 3070 (S.D.N.Y. Filed May 7, 2013). The SEC also amended its complaint to add Mr. Lujan as a defendant.

Court of appeals

Sanctions: Saad v. Securities and Exchange Commission, No. 10-1195 (D.C. Cir. Decided June 11, 2013) is an action based on the largely undisputed fact that John Saad submitted several false expense claims to his employer and later tried to conceal the wrongful conduct. Mr. Saad had been employed by Penn Mutual and registered with its broker-dealer affiliate, HTK, a FINRA member. In July 2006 after a business trip was canceled he submitted false expense reports seeking reimbursement as if he had traveled. When the company discovered this he was terminated. Later FINRA investigated and Mr. Saad attempted to cover-up the falsification, misleading investigators several times. A FINRA hearing panel found against him and imposed a life time bar from the industry that was affirmed by the NAC and the Commission.

The propriety of the life time bar was a critical issue before the Circuit Court. The Court began by noting that it does not second guess the Commission on sanctions. At the same time the Court stressed, the “Commission must be particularly careful to address potentially mitigating factors before it affirms an order . . . barring an individual . . . ” Under the applicable statute, the SEC can affirm the bar not as a penalty but as a means of protecting investors. In doing so, however, the agency must explain its reasons. In this case the decision of the Commission, as well as that of the FINRA Hearing Panel and the NAC, ignores potential mitigating factors asserted by Mr. Saad and supported by the record. Here Mr. Saad established that he had been terminated by his employer prior to any action by FINRA, a point that was not considered. Yet under FINRA Sanction Guidelines this factor must be considered. Similarly, the SEC’s decision referenced, but did not address, Mr. Saad’s contention that he was under severe stress at the time of the incident. While this factor is not specifically mentioned in the FINRA Sanction Guidelines, those are only illustrative and not exhaustive. This factor should have been considered. “Because the SEC failed to address potentially mitigating factors with support in the record, it abused its discretion . . . “ Accordingly, the Court remanded the case for further proceedings.

FCA

The U.K. regulator fined Xcap Securities PLC ₤120,900 for failing to adequately protect client assets. Specifically, from the end of June 2010 through August 2011 the firm failed to properly segregate client funds from its own, did not maintain accurate records and account for client assets and did not accurately reconcile client accounts.

SFC

The Securities and Futures Commission of Hong Kong fined Credit Suisse Securities (Hong Kong) Limited $1.6 million for regulatory breaches. Specifically, in October and December 2011 the firm exceeded the position limits for open positions in Industrial and Commercial Bank of China Limited stock. Although the firm had procedures in place they did not generate warning reports for the SFC’s position limits. Traders thus had to rely on their memory. Here the lapses occurred because the trader did not correctly remember the firm’s position.

BaFin

The German Federal Financial Supervisory Authority announced that it had obtained a conviction for market manipulation against a business man. The defendant was sentenced to serve five years and three months in prison and ordered to pay a fine of €3.5 million as restitution to injured parties. The case centered on a capital increase. Specifically, the defendant furnished falsified bank confirmations to a registration court causing it to reflect a false capital increase – one had not occurred. The defendant then implemented share transactions, selling securities at a price that did not reflect the reality of the company.

ABA Seminar: Fifth Annual FCPA Update: Protecting Your Business in the Future: Lessons from the New DOJ-SEC FCPA Guide, June 19, 2013 from 1:00 -2:30 p.m. EST. The discussion will focus on building effective compliance systems and conducting M&A due diligence. Co-moderators: Thomas Gorman and Frank Razzano. Panel: John Buretta, Principal Deputy to the Assistant AG, DOJ; Charles Cain, Assistant Director, FCPA Unit, SEC Division of Enforcement; Catherine Razzano, Assistant General Counsel, General Dynamics Corporation; Steve Siegal, Senior Counsel, Northrop Grumman Corporation; Ryan Ong, President, U.S. China Business Counsel. Live in Washington, D.C at 600 14^th St. N.W., Penthouse (no charge for ASECA members attending live in Washington who pre-register by sending an e-mail to cvitko.diane@dorsey.com). Webcast nationally by the ABA and available in other Dorsey & Whitney offices. For further information please click here.

The SEC lost another case in the D.C. Circuit Court of Appeals. This time, however, it did not involve rule making. Rather, the action focused on the imposition of a life time bar from the securities business by FINRA which was affirmed by the Commission on appeal. Saad v. Securities and Exchange Commission, No. 10-1195 (D.C. Cir. Decided June 11, 2013).

The case is based on the largely undisputed fact that John Saad submitted several false expense claims to his employer and later tried to conceal the wrongful conduct. Mr. Saad had been employed by Penn Mutual and registered with its broker-dealer affiliate, HTK, a FINRA member. He was registered as an investment company products and variable contracts limited representative, a general securities representative and a general securities principal.

In July 2006 Mr. Saad was scheduled to make a business trip. It was canceled. Mr. Saad then checked into a hotel for two days. Later he submitted expresses for air travel not taken and a two-day hotel stay in Memphis, the city to which he had been scheduled to travel. The submission contained a forged airline travel receipt and other documents he claimed supported the expenses. Later the firm discovered the falsification and terminated him.

FINRA investigated. During the inquiry Mr. Saad attempted to cover-up the falsification. He repeatedly mislead FINRA investigators.

In September 2007 FINRA brought a disciplinary proceeding against Mr. Saad alleging “conversion of funds in violation of NASD Conduct Rule 2110. A hearing panel found against Mr. Saad and imposed a permanent bar against association with a member firm in any capacity. That conclusion was affirmed by the NAC.

The Commission affirmed. In reaching its conclusion the SEC rejected Mr. Saad’s claim that there were mitigating circumstances which should have been considered in assessing the penalty.

The propriety of the life time bar was a critical issue before the Circuit Court. In reviewing a ruling regarding a sanction the Court began “[w]e do not limit the discretion of the Commission to choose an appropriate sanction so long as its choice meets the statutory requirements that a sanction be remedial and not ‘excessive or oppressive.” At the same time the Court stressed, the “Commission must be particularly careful to address potentially mitigating factors before it affirms an order . . . barring an individual . . . ”

The Commission is also required to explain the reasons a sanction is remedial in affirming a bar. Under the applicable statute, the SEC can affirm the bar not as a penalty but as a means of protecting investors. Stated differently, the sanction must be remedial, not penal. “If the Commission upholds a sanction as remedial, it must explain its reasoning in so doing; as the circumstances in a case suggesting that a sanction is excessive and inappropriately punitive become more evident, the Commission must provide a more detailed explanation linking the sanction imposed to those circumstances” the Court held. At the same time the SEC need not explain the reasons a lesser sanction is in appropriate.

In this case the decision of the Commission, as well as that of the FINRA Hearing Panel and the NAC, ignores potential mitigating factors asserted by Mr. Saad and supported by the record. This is contrary to established precedent in the D.C. Circuit. Here Mr. Saad established that he had been terminated by his employer prior to any action by FINRA, a point that was not considered. Yet under FINRA Sanction Guidelines this factor must be considered.

Similarly, the SEC’s decision referenced, but did not address Mr. Saad’s contention that he was under severe stress at the time of the incident. While this factor is not specifically mentioned in the FINRA Sanction Guidelines, those are only illustrative and not exhaustive. This factor should have been considered.

The Commission claims that it “implicitly” considered and denied these points. That is not sufficient. “Because the SEC failed to address potentially mitigating factors with support in the record, it abused its discretion . . . “ Accordingly, the Court remanded the case for further proceedings.

ABA Seminar: Fifth Annual FCPA Update: Protecting Your Business in the Future: Lessons from the New DOJ-SEC FCPA Guide, June 19, 2013 from 1:00 -2:30 p.m. EST. The discussion will focus on building effective compliance systems and conducting M&A due diligence. Co-moderators: Thomas Gorman and Frank Razzano. Panel: John Buretta, Principal Deputy to the Assistant AG, DOJ; Charles Cain, Assistant Director, FCPA Unit, SEC Division of Enforcement; Catherine Razzano, Assistant General Counsel, General Dynamics Corporation; Steve Siegal, Senior Counsel, Northrop Grumman Corporation; Ryan Ong, President, U.S. China Business Counsel. Live in Washington, D.C at 600 14^th St. N.W., Penthouse (no charge for ASECA members attending live in Washington who pre-register by sending an e-mail to cvitko.diane@dorsey.com). Webcast nationally by the ABA and available in select Dorsey & Whitney offices. For further information please click here.

The Chicago Board of Options Exchange became the first Self-Regulatory Organization to pay a civil penalty relating to its regulatory oversight functions. In the Matter of Chicago Board Options Exchange, Inc., Adm. Proc. File No. 3-15353 (June 11, 2013). Other exchanges have been sanctioned for business side misconduct rather than regulatory failures.

The proceeding centers on three key issues. First, the CBOE failed to adequately enforce the federal securities laws and its own regulations. Second, the exchange interfered with a Commission enforcement investigation. Third, it failed to propose rule changes until after it implemented certain trading functions.

Initially the CBOE failed to adequately enforce Regulation SHO regarding short selling. The applicable rules require that a registered clearing agency deliver equity securities when delivery is due. Settlement is usually T+ 3. If there is a failure, delivery must be made the next morning.

Here the CBOE developed policies and procedures for a surveillance program to identify possible violations of Regulation SHO. It sought to identify suspicious scenarios which would then be followed-up by an appropriate investigation. While the program did in fact generate exceptions, the exchange failed to take any significant action. For example, in January 2010 75 exceptions in several securities were identified for a member firm for the third and fourth quarters of 2009. A response by the self-clearing firm to a CBOE letter demonstrated that for each of the securities the firm had a failure to deliver. That suggested a possible violation of Regulation SHO. The exchange staff failed to adequately review the information and closed the file.

The exchange failed to adequately train its investigative staff regarding short sales and Regulation SHO, according to the Order. Indeed, the investigator primarily responsible for monitoring Regulation SHO surveillance from the third quarter of 2009 to the second quarter of 2010 had not read the rule in its entirety. The investigator had “briefly perused it.”

In February 2009 the exchange received a complaint concerning possible short sale violations. During the inquiry the CBOE staff consulted with the Commission staff. They were told that if there was no failure to deliver associated with the trade, no violation occurred and there was no violation by the customer because a customer cannot violate Regulation SHO. Yet the CBOE staff focused almost exclusively on the customer’s activity and incorrectly concluded there were no failures to deliver. As a result a closing report was prepared which incorrectly analyzed the trading.

Second, during the course of an investigation by the SEC Enforcement staff the CBOE “took misguided and unprecedented steps to assist the member which was under investigation . . . and failed to provide information to Commission staff when requested,” according to the Order. At one point during the investigation members of the CBOE staff actively advocated for the member. Later the exchange staff assisted in the preparation of a Well submission to the Commission which contained inaccurate statements. The Commission staff did not become aware of this until later when the CBOE responded to a document request and drafts of the Wells were produced.

Finally, the exchange failed to adequately enforce its firm quote, priority and registration rules. The CBOE also made unauthorized “customer accommodations,” rebates and other credits to some members in the absence of an applicable rule resulting in unfair discrimination The exchange, and its affiliate C2 Options Exchange, Inc., also a Respondent, failed to file proposed rule changes with the SEC when certain trading functions on their exchanges were implemented. The Order alleges violations of Exchange Act Sections 17(a)(1), 19(b)(1) and 19(g)(1).

After the SEC commenced its investigation the CBOE and C2 undertook a series of remedial efforts and initiatives which the Commission considered in resolving this action. Those included: the reorganization of its Regulatory Service Division; the retention of a chief compliance officer and two deputies; an update of its policies and procedures and an increase in the regulatory budget; the implementation of mandatory training for all staff and management; the retention of a third-party consultant to review its Regulation SHO enforcement program; a “bottom-up review of its regulatory Services Division; and the retention of outside counsel to investigate and self-report instances of financial accommodations to members after the SEC staff expressed concern about such an instance.

The proceeding was resolved with the CBOE consenting to the entry of a cease and desist order based on the Sections cited in the Order. C2 consented to the entry of an order based on Exchange Act Section 19(b)(1). The CBOE also agreed to pay a civil penalty of $6 million and is continuing to implement a series of undertakings.

ABA Seminar: Fifth Annual FCPA Update: Protecting Your Business in the Future: Lessons from the New DOJ-SEC FCPA Guide, June 19, 2013 from 1:00 -2:30 p.m. EST. The discussion will focus on building effective compliance systems and conducting M&A due diligence. Co-moderators: Thomas Gorman and Frank Razzano. Panel: John Buretta, Principal Deputy to the Assistant AG, DOJ; Charles Cain, Assistant Director, FCPA Unit, SEC Division of Enforcement; Catherine Razzano, Assistant General Counsel, General Dynamics Corporation; Steve Siegal, Senior Counsel, Northrop Grumman Corporation; Ryan Ong, President, U.S. China Business Counsel. Live in Washington, D.C at 600 14^th St. N.W., Penthouse (no charge for ASECA members attending live in Washington who pre-register by sending an e-mail to cvitko.diane@dorsey.com). Webcast nationally by the ABA and available in other Dorsey & Whitney offices. For further information please click here.

The Commission has been bringing an increasing number of actions involving regulated entities and investment advisers. The cases involve a variety of issues ranging from the failure to invest in accord with established procedures to miscalculating NAV. Its most recent action, however, charges an investment adviser and its senior officials with theft from the Detroit Police and Firefighters. SEC v Mayfieldgentry Realty Advisors, LLC, Civil Action No. 13-cv-12520 (E.D. Mich. Filed June 10, 2013).

In early 2008 a total of $3.1 million was taken from the Police and Fire Retirement System of the City of Detroit or PFRS to pay, in part, for the purchase of a shopping center acquired by the principles of registered investment adviser Mayfieldgentry or MGRA. The deal to purchase the shopping center had been inked at the close of 2007. PFRS was not informed about the deal nor did it consent. The money stolen would have funded benefits for more than 100 retired police officers, firefighters and surviving spouses and children for about one year.

MGRA at one point had about $750 million under management. It was founded by its president and CEO, defendant Chauncey Mayfield. He is the defendant in another Commission action centered on “pay-to-play” allegations. He pleaded guilty to one count of conspiracy to influence or reward local public officials in a related case. MGRA’s CFO and COO are, respectively, defendants Blair Ackman and Marsha Bass. W. Emery Mathews served as chief investment officer and Alicia Diaz was the general counsel. Both named defendants. Collectively the five defendants own MGRA.

PFRS’ business relationship with MGRA dates to 2002 when the firm directed the rehabilitation of a property owned by the pension fund. As the fund expanded its business, MGRA was selected to manage its properties. In May 2005 MGRA and PFRS executed a Real Estate Investment Advisory and Asset Management Agreement. In connection with the management of PFRS’ real estate investments, MGRA and Mr. Mayfield managed and controlled one of the fund’s bank accounts.

In January 2007 MGRA agreed to purchase select shopping center properties for $4.3 million. The adviser secured a bank loan for about $4.3 million of the purchases price. At year end with only $200,000 in cash the firm could not fund the balance of the purchase. Accordingly, in January 2008 Mr. Mayfield directed his CFO to wire $400,000 from the PFRS account the adviser controlled to the sellers of the shopping center properties. In February funding of the transaction was completed when Mr. Mayfield directed defendant Ackman to wire about $2.7 million from the PFRS checking account for the shopping center transaction.

From 2008 through 2011 Mr. Ackman furnished the pension fund with quarterly reports on the properties it owned. Regular report were also provided detailing funds transferred from the bank account. None mentioned the shopping center or the money take to pay for it.

In a May 2011 meeting the principles of MGRA, absent Mr. Mayfiled, met to review the firm’s budget. The money taken from the PFRS to fund the shipping centers was discussed. All agreed it had to be repaid without disclosing the fact to PFRS. Efforts to sell the shopping center properties were unsuccessful.

In a December 2011 meeting with PFRS, the adviser presented a detailed review of the budget for the fund which included an analysis of the advisory activities. Mr. Matthews told the group the fund had another strong year. Ms. Diaz stressed how well the properties owned by the fund were performing. That point was bolstered by Mr. Matthews who reported that the internal rate of return for the PFRS portfolio was 6.8%, thus exceeding relevant benchmarks. The PFRS representatives were not told that the rate of return would have been significantly impacted if the theft were considered. Indeed, no mention was made of the money taken to fund the shopping center until just prior to the time the Commission filed its “pay to play” action involving the firm in May 2012.

The SEC complaint alleges violations of Advisers Act Sections 206(1) and (2). Mr. Mayfield and the firm settled with the Commission, consenting to the entry of a permanent injunction prohibiting future violations of the Sections cited in the complaint. In addition, they agreed to pay disgorgement of $3,076,365.88. The remaining defendants are litigating the case. See also Lit. Rel. No. 22720 (June 10, 2013).

ABA Seminar: Fifth Annual FCPA Update: Protecting Your Business in the Future: Lessons from the New DOJ-SEC FCPA Guide, June 19, 2013 from 1:00 -2:30 p.m. EST. The discussion will focus on building effective compliance systems and conducting M&A due diligence. Co-moderators: Thomas Gorman and Frank Razzano. Panel: John Buretta, Principal Deputy to the Assistant AG, DOJ; Charles Cain, Assistant Director, FCPA Unit, SEC Division of Enforcement; Catherine Razzano, Assistant General Counsel, General Dynamics Corporation; Steve Siegal, Senior Counsel, Northrop Grumman Corporation; Ryan Ong, President, U.S. China Business Counsel. Live in Washington, D.C at 600 14^th St. N.W., Penthouse (no charge for ASECA members attending live in Washington who pre-register by sending an e-mail to cvitko.diane@dorsey.com). Webcast nationally by the ABA and available in other Dorsey & Whitney offices. For further information please click here.

Today we have a guest post from Kimberley R. Anderson, a partner at Dorsey & Whitney, resident in the Seattle, Washington office. Kimberly is a member of the firm’s capital markets group and focuses her practice on corporate and securities issues and cross-boarder matters. Her post today discusses the SEC’s new guidance on conflict minerals, a controversial area which has spawned extensive comment. Secactions welcomes the submission of other posts in key securities law areas.

On May 30, 2013, the Securities and Exchange Commission (SEC) issued its long anticipated guidance on the conflict minerals rules. The highly burdensome rules, which require disclosure regarding use and sources of “conflict minerals,” were mandated by the Dodd-Frank Wall Street Reform and Consumer Protection Act. The FAQs provide significant relief for certain kinds of manufacturers, particularly those in the food industry. The FAQs are available here.

Background

In response to the extreme levels of violence in the Democratic Republic of the Congo (DRC), which Congress felt was financed in part by the trade of “conflict minerals,” in 2010 Congress mandated the SEC to adopt regulations requiring additional disclosure by SEC reporting companies that use conflict minerals in product manufacturing. Conflict minerals include tantalum, tin, tungsten and gold. All categories of SEC reporting companies are covered by the disclosure rules, including foreign private issuers and smaller reporting companies. The final rule release is available here.

SEC Guidance

The FAQs provide much needed clarification on a wide range of topics.

What constitutes a product for purposes of the rules?

· Perhaps most significantly, the FAQs specify that packaging containing conflict minerals is not considered part of the product, even if a “product’s package or container is necessary to preserve the usability of that product up to and following the product’s purchase.” The question of whether packaging is necessary to the functionality of the product, and therefore considered part of the product, has been a nagging question since the rules were adopted. Canned soup is one commonly used example of this question. Is the product soup, or soup in a can? Now we know that, according to the Staff, the product is just the soup.

· Issuers that manufacture or contract to manufacture equipment, such as a cruise ship, used to provide a service are not subject to the conflict minerals rules with respect to that equipment, “if that equipment is used for the service provided by the issuer and the equipment is retained by the service provider, is required to be returned to the service provider, or is intended to be abandoned by the customer following the terms of the service.”

· If an issuer manufactures or contracts to manufacture equipment containing conflict minerals that the issuer uses to manufacture its products, the issuer may subsequently resell the used manufacturing equipment without regard to the conflict minerals rules. Such manufacturing equipment is not considered to be a product of the issuer requiring a conflict minerals analysis.

What activities are not considered manufacturing or contracting to manufacture?

· Mining of conflict minerals is not considered manufacturing under the rules. In addition, the FAQs clarify that activities relating to mining are also not considered to be manufacturing. These activities include, but are not limited to: transporting the mined ore to a processing facility; crushing and milling the ore; mixing crushed/milled ore with cyanide solution; floating cyanide mixture through a leaching circuit; extracting gold from a leached circuit; melting leached gold (which is often referred to as smelting) into ingots or bars (which are often referred to as doré gold); and transporting the doré gold to refinery for the refining process.

· Etching or marking a logo or other identifier on a generic product manufactured by a third party is not considered to be “contracting to manufacture.”

What entities are subject to the rules?

· Voluntary filers are subject to the conflict minerals rules.

· Where the manufacturing activities are conducted by a consolidated subsidiary but not the issuer, the issuer must make the mandated inquiries and disclosures for itself and its consolidated subsidiaries.

· The FAQs provide some relief for newly public companies. Newly public companies may begin reporting with the first calendar year that begins no sooner than eight months after the effective date of the registration statement for its IPO.

Reporting Guidance

· Issuers must conduct reasonable country of origin inquiries for generic components included in manufactured products, if the generic components include conflict minerals.

· For products containing conflict minerals that are “DRC conflict undeterminable” or not “DRC conflict free,” product descriptions required by Form SD may be determined by the issuer based on the facts and circumstances, and need not include model numbers. However, the Conflict Minerals Report must clearly state that the product is “DRC conflict undeterminable” or “not found to be DRC conflict free.”

· Issuers that manufacture products containing conflict minerals which are “DRC conflict free” must still file a Form SD with an audited Conflict Minerals Report, but certain product information need not be specified.

· Failure to timely file a Form SD will not impact Form S-3 eligibility.

Conclusion

The conflict minerals rules have been subject to an ongoing lawsuit commenced last October by the National Association of Manufacturers, together with the U.S. Chamber of Commerce. The SEC guidance discussed above provides clarification and welcome relief, particularly to packaged goods manufacturers, but we expect the rules will continue to impose a significant burden on many issuers and their suppliers.

ABA Seminar: Fifth Annual FCPA Update: Protecting Your Business in the Future: Lessons from the New DOJ-SEC FCPA Guide, June 19, 2013 from 1:00 -2:30 p.m. EST. The discussion will focus on building effective compliance systems and conducting M&A due diligence. Co-moderators: Thomas Gorman and Frank Razzano. Panel: John Buretta, Principal Deputy to the Assistant AG, DOJ; Charles Cain, Assistant Director, FCPA Unit, SEC Division of Enforcement; Catherine Razzano, Assistant General Counsel, General Dynamics Corporation; Steve Siegal, Senior Counsel, Northrop Grumman Corporation; Ryan Ong, President, U.S. China Business Counsel. Live in Washington, D.C at 600 14^th St. N.W., Penthouse (no charge for ASECA members attending live in Washington who pre-register by sending an e-mail to cvitko.diane@dorsey.com). Webcast nationally by the ABA and available in other Dorsey & Whitney offices. For further information please click here.

Money market funds were the focus this week at the Commission. The agency issued proposed regulations for comment which may revise the operations of the widely used investment vehicles. The action follows a failed effort last year to propose new regulations and a warning from the FSOC that it may step-in if the SEC continued to dawdle on this important question.

SEC Enforcement centered on offering fraud actions. Once case filed by the SEC involved thirty- five offerings that the complaint claims were actually one, integrated. A second centered on a series of offerings made by a small business owner. family owned business. The Commission settled another offering fraud case where the shares were used in microcap manipulations. In a variation, the Commission, in parallel with the CFTC, filed an action against a foreign broker to halt the unregistered sale of binary options in the U.S.

The agency also filed cases centered on the failure of internal accounting controls and insider trading. The latter names an individual as a defendant. Yet the allegations mimic the Commission’s “suspicious trading” actions – the trading is large and well timed before a take-over announcement but the source of the inside information is unknown.

SEC

Money market funds: The Commission issued proposed rules for comment regarding money market funds. The release contain two alternatives, either or both of which may ultimately be adopted. Under one, net asset value or NAV would float for a limited group. Under the other, funds would continue with the current stable NAV but would hve to “gate” the fund if certain thresholds are crossed (here).

Trading suspension: The Commission issued an order suspending trading for 61 companies in the over-the-counter market. This is the second largest trading suspension in agency history. It is part of what is called “Operation Shell Expel.”

Remarks: Commissioner Elisse B.. Walter addressed the SEC Historical Society Annual Meeting, Washington, D.C. (June 6, 2013). Her remarks focused on ways the agency is leveraging its scarce assets to increase investor protection (here).

Remarks: Commissioner Elisse B. Walter, Keynote Luncheon Speech, 32^nd Annual SEC and Financial Reporting Institute Conference, Pasadena CA. (May 30, 2013). The Commissioner addressed the need for accounting which reflects the substance of the transaction and priorities for the PCAOB (here).

Remarks: Paul Beswick, Chief Accountant, Remarks at the 32^nd Annual SEC and Financial Reporting Institute Conference, Pasadena, CA. (May 30, 2013). His remarks focused on the evolving international accounting standards and the PCAOB (here).

SEC Enforcement: Filings and settlements

Weekly statistics: This week the Commission filed 6 civil injunctive action and 2 administrative proceedings (excluding follow-on actions and 12(j) proceedings).

Insider trading: SEC v. Rungruangnavarat, Civil Action No. 13 cv 4172 (N.D. Ill. Filed June 5, 2013) is an action against Badin Rungruavgnavart, a 30 year old employee of a plastics company in Bangkok. It centers on the announcement that Shuanghui, a Chinese company, would acquire Smithfield Foods, Inc., made on May 29, 2013. Between May 21 and 28, 2013, the defendant purchased 1,300 out-of-the money July 29 Smithfieled call options; 1,7000 out-of-the-money July 30 Smithfield call options; 955 July Smithfield single-stock future contracts; 1,625 September Smithfield single-stock futures contracts and 100 shares of Smithfield common stock. The options cost less than $100,000. The futures required that $1.34 million be posted as margin. All of the trades were made in an account at Interactive Brokers, opened shortly before the first transaction. The complaint alleges, based on information and belief, that the defendant possessed inside information. It speculates that the source may have been “a Facebook friend who is a former employee of the company where Rungruangnavarat works, and who is associate director at the Thai investment bank that advised Chareon on its contemplated Smithfield bid.” The complaint alleges violations of Exchange Act Section 10(b). A freeze order was obtained over the account which has over $3.2 million in unrealized gains. The case is pending.

Unregistered offering: SEC v. Banc De Binary Ltd., Case No. 2:13-cv-00993 (D. Nev. Filed June 5, 2013) is an action against the firm which is based in the Republic of Cyprus. The firm is subject to securities regulators in that jurisdiction and holds reciprocal licenses in several other EU countries. It has never registered with the SEC. The firm has, since 2010, been selling binary options to U.S. residents. The securities are options whose payout is contingent on the future value of an underlying asset. For example, if the underlying asset increases in value, the purchaser profits. If it does not, the purchaser receives nothing. The firm has been soliciting for the product through a website, YouTube videos, e-mail and other internet based advertising. The securities are not registered. The firm is not a registered broker-dealer. The complaint alleges violations of Securities Act Section 5 and Exchange Act Section 15(a). The case is pending. The CFTC brought a parallel action. Both agencies have issued investor alerts regarding binary options.

Financial fraud: SEC v. Fisher, Civil Action No. 07-cv-4483 (N.D. Ill.) is a previously filed action against, among others, Kathleen Halloran and George Behrens, respectively, the former CFO and Treasurer of Nicor, Inc. The complaint alleged that the defendants had materially overstated the firm’s revenues under a performance based rate program. The overstatement resulted from making or authorizing false and misleading statements about the performance of the company in multiple filings, according to the allegations. The Commission alleved violations of Securities Act Sections 17(a)(2) and (3). Ms. Halloran and Mr. Behrens settled the claims, consenting to the entry judgments which require them to pay, respectively, $177,064.06 as disgorgement along with prejudgment interest, and $87,980 as disgorgement also with prejudgment interest. The Commission dropped claims against each settling defendant based on Securities Act Section 17(a)(1) and Exchange Act Sections 10(b) and 13(a). See also Lit. Rel. No. 22715 (June 5, 2013).

Offering fraud: SEC v. Laidlaw Energy Group, Inc., Civil Action No. 13 Civ. 3837 (S.D.N.Y. Filed June 5, 2013) is an action against the company and Michael Bartoszek.

>Between August 2006 and January 2010 Laidlaw sold approximately 2 billion shares to a group called the Purchasing Entities in 35 unregistered offerings for $1,259,550 in cash. No registration statement was in effect and a claimed exemption under Rule 504(b)(1)(iii) was not available because the offerings, when integrated, exceeded the $1 million limit of the Rule. The Purchasing Entities almost immediately resold the shares acquired from in the secondary market. Mr. Bartoszek knew that this was the intent of the Purchasing Entities. In two three month periods between December 2009 and June 2011 Mr. Bartoszek sold shares of the company which, in total, constituted over 1% of the float. At the time of the transactions Laidlaw was not a reporting company and, according to the complaint, the market price did not reflect the true condition of the company. This resulted from the fact that the periodic press releases and internet postings of the firm rarely disclosed any negative facts. Thus the share price reflected the positive information released by the company. The complaint alleges registration violations and insider trading, citing Securities Act Sections 5(a), 5(c) and 17(a) and Exchange Act Section 10(b). The case is in litigation. See also Lit. Rel. No. 22714 (June 5, 2013).

Reg M: In the Matter of UBS O’Connor, LLC, Adm. Proc. File No. 3-15437 (Filed June 3, 2013) is a proceeding in which the Respondent is a registered investment adviser and a wholly owned subsidiary of UBS AG, a Swiss banking corporation. The Order alleges that over a two and one half year period beginning in January 2009 the firm violated Rule 105 of Regulation M sixteen times. During that period the firm shorted securities in the issuers within five days of the pricing of firm commitment public offerings. It later purchased equity securities in the offerings. Overall the firm had profits from those transactions of $2,168,473. In addition, the firm obtained an impermissible benefit of $1,619,116 for the funds from the remaining shares purchased in firm commitment public offerings. During the inquiry the adviser revised its policies and procedures to comply with the Regulation. To resolve the proceeding the firm consented to the entry of a cease and desist order based on Rule 105 of Regulation M and the entry of a censure. The Respondent will also pay disgorgement of $3,787,590, prejudgment interest and a civil penalty of $1,140,000.

Internal controls: SEC v. PACCAR Inc., Civil Action No. 2:13-cv-00953 (W.D. Wash. Filed June 3, 2013) is a proceeding against the firm and its related finance entity. It is based on three separate errors in the financial reporting of the company, each of which traces to deficiencies in the internal accounting controls of the firm. The errors occurred in the period 2008 through the third quarter of 2012. The first concerned segment reporting. In its Form 10-K for the period ended December 31, 2009 PACCAR did not separately report income before taxes from truck sales and aftermarket part sales. GAAP, and the applicable Commission rules, require an issuer to report select information about reportable segments separately. Although internally the company treated the truck and parts sales portions of the business as essentially segments, they failed to report them as such. Accordingly, investors only saw that the combined truck and parts segment made a profit rather than the fact that truck sales generated a loss which was eclipsed by the profits from part sales. Second, PACCAR and its related finance company, defendant PACCAR Financial Corporation, understated impaired receivables and the associated specific reserve in the financial statement notes to the 2009 Form10-K, according to the complaint, by a significant amount. Likewise, the company failed to disclose the impairment of leases to its two largest past due customers by about 65%. Finally, the company overstated the amount of (a) retail loans and direct financing leases originated and (b) collections on retail loans and direct financing leases in its consolidated Statement of Cash Flows for the quarters ended June 30, 2009 and September 30, 2009 by equal amounts. The complaint alleged violations of Exchange Act Sections 13(a), 13(b)(2)(A) and 13(b)(2)(B). The company resolved the action, consenting to the entry of a permanent injunction prohibiting future violations of the Sections cited in the complaint. It also agreed to pay a civil monetary penalty of $225,000. The settlement takes into account the remedial actions of the company.

Offering fraud/manipulation: SEC v. Rubin, Civil Action No. SACV 11-1466 (C.D. Cal.) is a previously filed action against Thomas Rubin and Christopher Scott, respectively, the CEO and CFO of broker dealer Westcap Securities, Inc. and others. The complaint alleged that the two men and others engaged in a continuous scheme to conduct unlawful unregistered offerings and/or manipulate the shares of four microcap stocks. This week the Commission announced that the court had entered final judgments by consent as to Messrs. Rubin and Scott as well as defendants BGLR Enterprises, LLC and E-Info Solutions, LLC. The judgments against the two men impose permanent injunctions prohibiting future violations of Securities Act Sections 5(a), 5(c) and 17(a) and Exchange Act Section 10(b). In addition, a penny stock bar was ordered against each man, 10 years for Mr. Rubin and 5 years for Mr. Scott. Defendant Scott will also be required to pay disgorgement of $112,000, prejudgment interest and a civil penalty of $75,000. The court has not determined what financial remedies may be imposed against Mr. Rubin. The court also entered, permanent injunctions prohibiting future violations of Securities Act Sections 5(a) and (c) as to each entity defendant and, respectively, a 10 year and 5 year penny stock bars as to BGLR Enterprises and E-Info Solutions. See also Lit. Rel. No. 22713 (June 3, 32013).

Investment fund fraud: SEC v. Gist, Civil Action No. 1:13-CV-01833 (N.D. GA. Filed May 31, 2013) is an action against attorney Robert Gist and his firm Gist, Kennedy & Associates, Inc. The complaint alleges that since 2003 Mr. Gist has raised about $5.4 million from 32 individuals based on promises that he would invest their funds in a conservative manner. In fact he used the money for personal expenses and to fund a company he controlled. Investors were periodically furnished with fictitious account statements. The complaint alleges violations of Exchange Act Sections 10(b) and 15(a). The defendants resolved the proceeding, consenting to the entry of a permanent injunction prohibiting future violations. As to the company the injunction is based on Exchange Act Section 10(b). As to Mr. Gist it is based on both Sections cited in the complaint. The order also requires that the defendants, on a joint and several basis, pay $5.4 million in disgorgement, prejudgment interest and penalties. See also Lit. Rel. No. 22710 (May 31, 2013).

Offering fraud: In the matter of Scuderi Group, Inc., Adm. Proc. File No. 3-15344 (Filed May 30, 2013) is a proceeding against the firm and its President and CFO, Salvatore Scuderi. The Group has been in the business of developing a new internal combustion engine design. The firm funded its operations from individual investors and investment clubs, raising about $80 million in six offerings which sold what were called “preferred units” to about 415 investors. While Respondents claimed that the offerings were exempt from registration, in fact they did not qualify under Section 4(2) or Regulation D Rule 504 because they exceeded the investor limits, failed to provide investors with audited financial statements and effectively engaged in a plan to evade the registration statements. The offering materials furnished to potential investors also misstated the use which would be made of the funds. Specifically, about $3.2 million, representing just over 4% of the investor funds, were used for personal purposes and undocumented loans to family members, contrary to representations in the offering materials. To resolve the proceeding, Respondents agreed to implement undertakings which require them to inform investors of this proceeding and document the loans. They also consented to the entry of a cease and desist order based on Securities Act Sections 5(a), 5(c) and 17(a)(2). Mr. Scuderi agreed to pay a civil money penalty of $100,000.

Offering fraud: SEC v. Detroit Memorial Partners, LLC, Civil Action No. 1:13-cv-01817 (N. D. Ga. Filed May 30, 2013). Mr. Morrow and his company are alleged to have raised just under $25 million from investors who purchased either notes or what were called equity interests in Detroit Memorial Partners. In 2007 Mr. Morrow decided to bid for 28 cemeteries in Michigan that were in receivership. To implement the plan he formed Detroit Memorial. Initially, Mr. Morrow raised investment funds from a wealthy business man whose wife was a client of his long time business associate, Angelo Alleca and his firm, Summit Wealth Management, Inc. Mr. Allecca and his firm are defendants in another Commission enforcement action centered on a claimed Ponzi scheme. Later Mr. Alleca and others at Summit sold about $9.5 million of Detroit Memorial promissory notes. The notes were unregistered and by early January 2009 Mr. Allecia lost much of the proceeds in risky investments, according to the complaint. Mr. Allecia sole more unregistered notes. The offering materials contained a series of misrepresentations. In 2012 another offering of Detroit Memorial unregistered notes was made to 18 investors who purchased about $1.3 million in notes. Again, the offering materials contained misrepresentations. Finally, Detroit Memorial raised an additional $4.5 million from four investors in return for a combined 61% equity interest in the entity. Mr. Morrow told some investors that the company was debt free – a misrepresentation since it had substantial debt from the note offerings. The complaint alleges violations of Securities Act Sections 5(a) and 5(c), each subsection of Section 17(a) and Exchange Act Section 10(b). The case is in litigation.

FINRA

Suitability: Fines were imposed, and restitution ordered paid, by Wells Fargo Advisors, LLC and Merrill Lynch, Pierce, Fenner & Smith Inc., (successor for Banc of America Investment Services) for customer losses incurred from the sale of floating-rate bank loan funds. Those instruments are mutual funds that typically invest in a portfolio of secured senior loans made to entities whose credit quality is below investment grade. The funds are subject to significant risk and can be illiquid. Each firm recommended these instruments to customers for whom they were not suitable. Accordingly, Wells Fargo will pay a fine of $1.25 million and reimburse about $2 million in losses to 239 customers. Merrill Lynch will pay a fine of $900,000 and reimburse about $1.1 million in losses to 214 customers.

Criminal cases

Investment fund fraud: U.S. v. Scott (E.D.N.Y.) is an action charging wire fraud conspiracy against Frederick Scott, the founder and CEO of ACI Capital Group LLC. The firm is a registered investment adviser. Mr. Scott engaged in two fraudulent schemes. In one he induced investors to wire funds to the firm based on the promise of a high rate of return from short-term financing from businesses associated with the adviser. In the other he promised favorable loans in return for the payment of a fee. In fact, Mr. Scott misappropriated the investor funds, according to the court papers. Mr. Scott was arraigned earlier this week. The case is pending.

FCA

The UK Financial Conduct Authority fined Sesame Limited £6,031,200 for failing to: a) ensure that investment advice was suitable and b) not having systems and controls that govern oversight of representatives. Specifically, from July 2005 through June 2009 the firm advised 426 customers to invest in Keydata life settlement products. That advice did not correspond to the investment objective of the clients. The firm also failed from July 2010 to September 2012 to take reasonable care to organize and control it affairs responsibly and effectively and failed to improve its oversight of representatives.

ABA Seminar: Fifth Annual FCPA Update: Protecting Your Business in the Future: Lessons from the New DOJ-SEC FCPA Guide, June 19, 2013 from 1:00 -2:30 p.m. EST. The discussion will focus on building effective compliance systems and conducting M&A due diligence. Co-moderators: Thomas Gorman and Frank Razzano. Panel: John Buretta, Principal Deputy to the Assistant AG, DOJ; Charles Cain, Assistant Director, FCPA Unit, SEC Division of Enforcement; Catherine Razzano, Assistant General Counsel, General Dynamics Corporation; Steve Siegal, Senior Counsel, Northrop Grumman Corporation; Ryan Ong, President, U.S. China Business Counsel. Live in Washington, D.C at 600 14^th St. N.W., Penthouse (no charge for ASECA members attending live in Washington who pre-register by sending an e-mail to cvitko.diane@dorsey.com). Webcast nationally by the ABA and available in other Dorsey & Whitney offices. For further information please click here.

Offering frauds continue to be the focus of the SEC Enforcement Division. Echoing claims from other recent cases, such as In the Matter of Scuderi Group, Inc., Adm. Proc. File No. 3-15344 (Filed May 30, 2013) (repeated share placements made under a claimed exemption which were one years long unregistered offering) Michael Bartoszek and his controlled entity, Laidlaw Energy Group, Inc., sold company shares in 35 unregistered tranches over a period of four years. In fact the sales were one integrated, illegal offering. SEC v. Laidlaw Energy Group, Inc., Civil Action No 13 Civ 3837 (S.D.N.Y. Filed June 5, 2013).

Laidlaw was founded in 2002 by Mr. Bartoszek. The company intended to build a portfolio of facilities that would produce power by burning wood chips and other organic wastes. It acquired one facility in 2006 which was not viable two years later. Interest in another was acquired and sold in 2010.

From inception Laidlaw only had two sources of revenue. The 2010 sale referenced above and stock sales. While a public relations firm was retained and positive press releases were issued, investors were not told negative facts such as the firm’s lack of a revenue source. Likewise, investors were not told that in 2007 the outside auditors issued a going concern opinion.

Despite the lack of revenue, beginning in 2005 or 2006 the firm developed a relationship with a group identified only as the Purchasing Entities. At the time Laidlaw’s shares were quoted by the OTC Markets Group, Inc., formerly known as the Pink Sheets. Between August 2006 and January 2010 Laidlaw sold approximately 2 billion shares to the Purchasing Entities in 35 unregistered offerings. The firm was paid $1,259,550 in cash for the shares. No registration statement was in effect. While the transactions were purportedly made based on Rule 504(b)(1)(iii), that exemption only applies to limited offers not exceeding $1 million if other conditions are met. Here Laidlaw’s solicitations were, in effect, one continuous offering which exceeded the dollar limitations of the Rule, according to the complaint.

The Purchasing Entities almost immediately resold the shares acquired from the company in the secondary market. Mr. Bartoszek knew that this was the intent of the Purchasing Entities. Nevertheless, in Form 10 registration statement with the Commission in January 2010 for Laidlaw shares the Purchasing Entities were represented as holding over 80% of Laidlaw’s shares. Later the Form 10 was withdrawn before it became effective.

Later that same year Mr. Laidlaw filed a Form S-1 registration statement for Laidlaw with the Commission for a secondary offering of common stock. This registration statement repeated the same false claim as the Form 10 regarding the share ownership of the Purchasing Entities. The misrepresentation was omitted in a subsequent amendment.

In two three month periods between December 2009 and June 2011 Mr. Bartoszek sold shares of the company which constituted over 1% of the float. At the time of the transactions Laidlaw was not a reporting company and, according to the complaint, the market price did not reflect the true condition of the company. This resulted from the fact that the periodic press releases and internet postings of the company rarely disclosed any negative facts. Thus the share price reflected the positive information released by the company.

The complaint alleges registration violations and insider trading, citing Securities Act Sections 5(a), 5(c) and 17(a) and Exchange Act Section 10(b). The case is in litigation. See also Lit. Rel. No. 22714 (June 5, 2013).

ABA Seminar: Fifth Annual FCPA Update: Protecting Your Business in the Future: Lessons from the New DOJ-SEC FCPA Guide, June 19, 2013 from 1:00 -2:30 p.m. EST. The discussion will focus on building effective compliance systems and conducting M&A due diligence. Co-moderators: Thomas Gorman and Frank Razzano. Panel: John Buretta, Principal Deputy to the Assistant AG, DOJ; Charles Cain, Assistant Director, FCPA Unit, SEC Division of Enforcement; Catherine Razzano, Assistant General Counsel, General Dynamics Corporation; Steve Siegal, Senior Counsel, Northrop Grumman Corporation; Ryan Ong, President, U.S. China Business Counsel. Live in Washington, D.C at 600 14^th St. N.W., Penthouse (no charge for ASECA members attending live in Washington who pre-register by sending an e-mail to cvitko.diane@dorsey.com). Webcast nationally by the ABA and available in other Dorsey & Whitney offices. For further information please click here.