by T. GormanPosted on Posted in SECActions

The Supreme Court agreed to hear another securities law case. The case arises out of the litigation surrounding the Allen Stanford Ponzi scheme and involves the application of the Securities Litigation Uniform Standards Act or SLUSA. That Act generally precludes securities class action plaintiffs from circumventing the stringent pleading requirements of the Private Securities Litigation Reform Act of 1995 or the PSLRA. The issue the Court will consider focuses on whether SLUSA applies when the plaintiffs purchased securities not covered by the Act in reliance on misrepresentations that those securities were backed by investments securities that are covered by the statute. The Court did not agree to hear a second question regarding whether SLUSA applies to claims of aiding and abetting. Chadbourne & Parke LLP v. Willis of Colorado Incorporated, Nos. 12-79, 12-86 and 12-88.

SLUSA amended both the Securities Act and the Exchange Act to preclude certain securities class actions based on state law which sought to circumvent the PSLRA. The Act specifies that a class action on behalf of more that 50 people – defined as a “covered” class action – cannot be maintained in either federal or state court based on statutory or common law claims alleging the misrepresentation or omission of a material fact in connection with the purchase or sale of a covered security, defined as one listed on a national securities exchange. To permit these claims to be based on state law rather than the securities laws would defeat the PSLRA.

The “in connection with” requirement of SLUSA must be read broadly, according to the High Court in Merrill Lynch, Pierce, Fenner & Smith Inc. v. Dabit, 547 U.S. 71 (2006). There the Court held that SLUSA precluded a claim where the plaintiffs were holders of securities but did not have an Exchange Act Section 10(b) claim because they had not purchased or sold a security. This was because the in connection with requirement is met if the fraud “coincides” with a securities transaction by the plaintiff or someone else. The issue in Chadbourne turns on the application of the statute’s “in connection” requirement and Dabit’s “coincides” approach to it.

The case began as three separate class actions built on the same core nucleus of facts regarding Allen Stanford’s Ponzi scheme. Generally, the Stanford entities sold certificates of deposit issued by Stanford International Bank, an Antique based entity. Investors were promised above market returns. They were assured that the CDs were safe and backed by liquid marketable securities sold on national exchanges. In fact they were not. The investment proceeds were used in the Ponzi scheme.

Although three suits were brought none named a Stanford entity as a defendant. On was brought in state court by a group of Louisiana investors known as the Roland plaintiffs against SEI Investment Company, the administrator of the Stanford Trust. A second was brought in federal court by a group of Latin American investors known as the Troice plaintiffs against Stanford International Bank’s insurance brokers – the Willis Defendants. A third was also by the Troice plaintiffs, this time against the attorneys for the Stanford entities, alleging aiding and abetting.

The district court dismissed the actions, concluding that a covered security is involved. After noting that the “in connection with” requirement was subject to different tests in the various circuits, the court applied the teachings of the Eleventh Circuit. Under that approach the issue focused on if the fraudulent scheme coincided and depended on the purchase or sale of the securities. Here the court concluded that Stanford lead the plaintiffs to believe that the CDs were backed at least in part by covered securities. Finding this sufficient the court noted that its ruling was consistent with similar decisions in the Madoff feeder fund actions. In addition, the scheme coincided and depended on the purchase or sale of securities.

The Fifth Circuit reversed. The Circuit court, following the reasoning of the Ninth Circuit, held that the in connection with requirement is met if there is a relationship in which the fraud and the stock sale coincide or are more than tangentially related. Here this standard was not met because the claim about “marketable securities” was just one among the many used to further the Ponzi scheme.

In seeking certiorari Petitioners argued that the Fifth Circuit misconstrued the in connection with requirement. They also pointed to different formulations of the in connection with requirement among the circuits claiming: The Second, Sixth and Eleventh Circuits use a “coincides with” or “depends upon” test while the Fifth and Ninth use a “more than tangentially related” approach.

The SEC opposed granting the writ. While the Commission viewed the Fifth Circuit’s determination as error, the agency argued that there is no real split among the circuits and that the fact pattern here is unusual, making the case a poor vehicle for considering the issues. The case is in briefing.

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by T. GormanPosted on Posted in SECActions

Egan – Jones Ratings Company and Sean Egen, its founder and president, settled Commission administrative proceedings, ending months of contentious litigation. In the Matter of Egan-Jones Ratings Company, Adm. Proc. File No. 3-14856 (Jan. 22, 2013). The proceeding centered around claims that the firm and its founder provided false information in an application to register as a nationally Recognized Statistical Rating Organization or NRSRO. Shortly after the proceeding was brought Egan – Jones and Mr. Egan filed suit against the SEC to block the administrative proceeding claiming that they could not receive a fair hearing in that forum. Egan-Jones Rating Company v. U.S. Securities and Exchange Commission, Case No. 1:12-cv-00920 (D.D.C. Filed June 6, 20120).

The administrative proceeding: Respondents, according to the Order, claimed in a July 2008 application to register as an NRSRO regarding asset-backed securities and government securities that the firm had 150 outstanding ABS issuer ratings and 50 outstanding government issuer ratings. In fact at the time of the application the firm had not made available on the Internet or through another readily accessible means any ABS or government issuer ratings. Misrepresenting its experience in an effort to register with respect to these two classes violated Exchange Act Section 15E(B)(2), the Order claimed.

The Order alleged, in addition, a series of other violations including:

· That the firm falsely stating it was unaware of whether subscribers held positions in certain securities;

· The failure of the firm to enforce its policies to address conflicts of interest arising from employee ownership of securities;

· The failure of the firm to make or retain a record of the procedures and methodologies used to determine credit ratings; and

· The failure of the firm to maintain e-mails regarding its determination of credit ratings for about 18 months after registering as an NRSRO.

Mr. Egan caused the violations, according to the Order.

The suit against the SEC: The firm and Mr. Egan fought back, claiming that the proceeding was the result of a flawed process and that a fair trial could not be had in the administrative forum. The Order instituting the administrative proceeding was, according to the complaint, the product of a defective, bias and tainted process. After reciting a linty of facts and wrongful conduct the complaint demanded an order removing the proceeding to Federal Court and other relief.

The settlement: The firm and its founder have resolved the administrative proceeding. After agreeing the firm would adopt a series of procedures to remedy the deficiencies cited in the Order the settlement provides that:

· Each Respondent consent to the entry of a cease and desist order based on Exchange Act Sections 15E(a)(1), 15E(b), 15E(h)(1) and 17(a);

· The firm’s NRSRO registration for the classes of issuers of ABS and government securities would be revoked;

· Mr. Egan would be barred from association with any NRSRO registered in either of the two classes involved in the case for 18 months with any reapplication being subject to certain standards; and

· In the event either Respondent issues or maintains any credit ratings for either of the classes of securities involved here they will disclose that such ratings are not issued or maintained by a registered NRSRO. In addition, the firm will list its non-NRSRO credit ratings separately on its website and identify them as such and state that it is not an NRSRO registered with respect to the two classes of securities involved in the case. The firm also agreed to send a written notification to its subscribers stating that it is not a registered NRSRO with respect to ABS and government securities.

Finally, Respondents agreed to pay a civil penalty of $30,000. The civil suit against the Commission, while still pending, presumably will be dismissed.

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