This Week In Securities Litigation (June 12, 2009)
Regulatory reform is the vogue topic these days, with proposals coming from all quarters. The topic this week however, seemed to be executive compensation. SEC Chairman Schapiro announced that the Commission is considering a new package of proposals in this area, while others called for market regulators to be given new authority. Next week, the Treasury Secretary is due to announce what may be the framework for future regulatory reform.
SEC enforcement, struggling to reestablish itself, focused on insider trading with three new cases in that area, along with what is becoming the usual — more investment fund fraud cases. In what is becoming another trend, the CFTC filed a parallel action to one of the SEC’s investment fund fraud actions, highlighting the overlap of the two regulators in some financial products areas. And, in private actions, another company all but wrapped up its option backdating difficulties with a tentative settlement in class actions, following earlier settlements in derivative suits and with the SEC.
Market reform
Executive compensation: SEC Chairman Schapiro announced that the SEC is considering a package of new proxy rules to provide additional disclosure regarding compensation decisions. The Chairman noted that “[w]hile these proposals would not dictate particular compensation decisions, they would lead companies to analyze now compensation impacts risk taking and the implications for long term corporate health of the behavior they are incenting.” The proposals will focus on information: about the company and its board and managers; regarding the overall approach of the company to compensation; potential conflicts of interest involving consultants; and about director nominees, their qualifications and why they were selected. Brian Breheny, Deputy Director of Corporation Finance, also discussed the proposals in his congressional testimony this week.
Reform proposals: Former SEC Chairmen William Donaldson and Arthur Levitt, former SEC Commissioner Harvey Goldschmid, a former World Bank President James Woldensohn, former Deputy Treasury Secretary Roger Altman, Ira Millstein, Stephen Davis and Jonathan Koppell sent a letter to the White House this week advocating several capital market reforms. Those include: oversight over hedge funds; improved regulation of key derivative products: stepped-up standards and supervision of credit rating firms; an advisory shareholder vote on compensation policies; the creation of a permanent commission to develop a U.S. code of corporate governance best practice principles; and merging the CFTC and the SEC.
Calls for more regulation: CFTC Chairman Gary Gensler, in testimony before the Senate Committee on Agriculture, outlined a framework for regulating derivatives discussed here. Under the proposal, regulation would be extended to cover all derivatives dealers. The regulation would include capital requirements for all derivatives. Mr. Gensler also called for business conduct and transparency requirements.
To promote safety and transparency, all derivatives transactions should be moved into a central clearing house and cleared through regulated central clearing houses under Mr. Gensler’s proposal. This would require product standardization. The exchanges and clearing houses would be regulated by the CFTC and the SEC, according to their respective authority. For those derivatives which are customized and could not be exchange traded, Mr. Gensler suggests that risk can be reduced and transparency increased if the CFTC is given authority to require record keeping and reporting, to impose margin requirements and to prevent fraud.
FINRA: FINRA Chairman & CEO Rick Ketchum addressed the NAVA Government and Regulatory Affairs Conference on June 8, 2009. In his remarks, Mr. Ketchum discussed what he called “filling in the regulatory gaps.” In this regard, he proposed reforming inconsistent regulations which govern the sales of similar products, the need for consistency of regulation for annuities and resolving the disparity of regulation between broker-dealers and investment advisers.
Legislation: H.R. 2733 was introduced in the House of Representatives. The bill is designed to overrule SEC Rule 151A regarding Indexed Annuities. A suit challenging the validity of that rule is in litigation as discussed here.
SEC enforcement
Insider trading: SEC v. Macdonald, Civil Action No. 09-CV-5352 (S.D.N.Y. Filed June 10, 2009) is the Commission’s latest “pillow talk” insider trading case, discussed here. Defendants are Phillip Macdonald, Martin Gollan and Michael Goodman, all residents of Ontario, Canada. Mr. Goodman’s wife was employed at Merrill Lynch Canada in Toronto, Ontario. She held a position as an administrative assistant to certain managing directors involved in advising clients on contemplated deals.
Between January and June 2005, Ms. Goodman periodically discussed her work with her husband on the understanding that the information would be kept confidential. They discussed eight different pending transactions. Mr. Goodman tipped defendants Gollan and Macdonald in each instance. Both traded in the stocks of each with Mr. Macdonald netting over $900,000, while Mr. Gollan had profits of $90,000.
Mr. Goodman settled with the Commission, consenting to the entry of a permanent injunction prohibiting future violations of Sections 10(b) and 14(e). The judgment also provides that he is liable for disgorgement of the trading profits of Messrs. Macdonald and Gollan totaling $1,023,054 plus prejudgment interest. Payment and a penalty were waived based on his financial condition. Messrs. Macdonald and Gollan are litigating the case. See also Lit. Release No. 21079 (June 10, 2009).
Insider trading: The Commission amended its complaint in SEC v. One or More Unknown Purchasers of Call Options for the common stock of CNS, Inc., Case No. 06-4540 (E.D. Pa. Filed Oct. 12, 2006), adding a Swiss national and his corporation as defendants. The case centers on the acquisition of CNS, Inc. by GlaxoSmithKline plc. Shortly before the announcement of the deal unknown purchasers acquired 905 call options for CNS through Swiss American in an omnibus account affiliated with Credit Suisse, Zurich. In addition, 281 CNS call options were purchased in an account at National Financial Services through Zurich Cantonal Bank. Following the announcement of the deal all the options were sold, yielding trading profits of over $646,000.
As discussed here, the initial complaint named only unknown purchasers as defendants. The amended complaint identifies Lorenz Kohler and Swiss Real Estate International, as the traders in the Swiss American account. While the complaint does not indicate the source of the inside information, it claims Mr. Kohler engaged in insider trading in five other instances. The case is in litigation. SEC v. Kohler, Case No. 06-4550 (E.D. Pa. June 8, 2009).
Insider trading: In SEC v. Hollier, Civil Action No. 6:09-cv-00928 (W.D. La. June 8, 2009), the Commission brought an action based on alleged violations of Section 10(b) and Rule 10b-5 thereunder against Robert Hollier, a director of Warrior Energy Services Corporation and his friend, Wayne Dupuis. According to the complaint, Mr. Hollier told Mr. Dupuis about the pending merger between Warrior Energy and Superior Energy Services, Inc. in September 2006, while the two men were on a hunting trip. After returning from the trip Mr. Dupuis liquidated the two other stocks he held and bought shares of Warrior Energy. Later that month, the merger was announced. The share price for Warrior Energy increased almost 70%. Mr. Dupuis liquidated his holdings for a profit of about $41,000. The case is in litigation. See also Lit. Release No. 21072.
Fund pricing: The SEC filed a settled administrative proceeding which named as Respondents Evergreen Investment Management Company LLC, a registered investment adviser, and Evergreen Investment Services, Inc., an affiliated registered broker dealer, as discussed here. The proceeding centered on the incorrect pricing of the shares of Evergreen Ultra Short Opportunities Fund, which invested primarily in residential mortgage-backed securities and collateralized debt obligations backed by such securities. The Order also stated that as the NAV dropped due to the repricing of securities, that information was selectively disclosed to certain shareholders to the detriment of others. The fund also engaged in prohibited transactions with affiliates. In the Matter of Evergreen Investment Management Company, LLC, Adm. Proc. File No. 3-13507 (June 8, 2009).
To resolve the matter, the Respondents, whose cooperation was acknowledged, consented to a censure and the entry of a cease and desist order. In addition, Evergreen agreed to pay more than $40 million as part of the settlement. Approximately $33 million was paid to compensate fund shareholders. An additional $3 million in disgorgement along with a $4 million penalty was also paid.
Investment fund cases: This week the SEC filed three additional investment fund fraud cases:
SEC v. Son, Case No. CV-09-2554 (N.D. Cal. Filed June 9, 2009) is a claimed $80 million Ponzi scheme which targeted Korean Americans. The complaint alleges that about 500 investors were solicited to invest in a claimed foreign currency trading scheme with promises of extraordinary returns. In fact, the fund was a Ponzi scheme. The Commission is seeking an emergency freeze order. See also Lit. Release No. 21076 (June 9, 2009). The CFTC filed a parallel case. CFTC v. SNC Management, Inc., Case No. 3:09-cv-02554 (N.D. Cal. Filed June 9, 2009).
SEC v. Kunkel, Case No. 1:09-CV-1481 (N.D. Ga. June 4, 2009) was brought against attorney Christopher Kunkel for assisting in the fraudulent sale of the unregistered securities of Pinnacle Development Partners LLC. That entity raised over $62 million from over 2,200 investors with claims that it made money by flipping real estate. In fact, the fund was a Ponzi scheme, according to the SEC. Mr. Kunkel settled the action by consenting to the entry of a permanent injunction prohibiting future violations of Sections 5 and 17(a) of the Securities Act and Section 10(b) of the Exchange Act. He also agreed to disgorge over $81,000 plus prejudgment interest. A penalty was waived based on Mr. Kunkel’s financial condition.
SEC v. Weitzman, Civil Action No. 09 CV 5353 (S.D.N.Y. June 10, 2009) is an action against an investment adviser, Matthew Weitzman, the co-founder and a principal of AFW Wealth Advisors, a registered investment adviser. The complaint claims that defendant Weitzman liquidated securities in client accounts and misappropriated the funds for his own use. In some instances, he targeted elderly or infirm clients who were not as likely to check their accounts. The defendant consented to the entry of an injunction prohibiting future violations of Section 10(b) of the Exchange Act and Section 206 of the Advisers Act. Relief will be determined at a later date.
Criminal cases
U.S. v. Piccoli, Case NO. 1:09-cr-00198 (W.D.N.Y. Filed June 8, 2009) is an investment fund fraud case in which defendant Richard Piccoli and his wholly owned company, Gen-See Capital Corp., pleaded guilty to criminal charges which include mail fraud. The case is based on a multimillion dollar Ponzi scheme run by Mr. Piccoli which targeted Catholics and retirees. From 2002 to this year the defendants raised more than $31 million from investors who were guaranteed annual returns of 7.1% to 8.3% based on what were claimed to be investments in discounted real estate mortgages. Sentencing has not yet been scheduled. The SEC filed a case against Gen-See and Mr. Piccoli earlier this year based on the same conduct. SEC v. Gen-See Capital, Case No. 1:09-cv-0014 (W.D.N.Y. Filed Jan. 8, 2009). See also Lit. Release No. 20849 (Jan. 9, 2009).
Private actions
Option backdating: Marvell Technology Group reached a $72 million settlement in securities class actions based on option backdating. In re Marvell Technology Group Ltd. Sec. Litig., Case No. 5:06-cv-06286 (N.D. Cal.). The suit claimed that the company and certain of its officer backdated stock options and then made false statements about the practices. In October 2006, the company disclosed that it financial statements from June 2000 through 2006 could not be relied on. Subsequently, the company recorded a charge of $327 million to correct the accounting errors associated with the backdating of options. In May 2008, the company settled with the SEC as discussed here. Earlier this year, the company also reached a preliminary settlement of derivative litigation based on the same practices as discussed here. If final approval is received for both the class and derivative settlements the company will have concluded all litigation relating to option backdating.
Articles
“Sonia Sotomayor’s Securities Law Opinions — What President Obama’s Supreme Court Nominee Might Mean for Private Securities Litigation” by Mary Eaton & Roger Netzer (June 10, 2009), in www.securitiesdocket.com.