by T. GormanPosted on Posted in SECActions

In the last two years SEC Enforcement has filed record numbers of cases. This is a significant accomplishment. A critical question about those statistics, however, is the composition of the case load. Stated differently, in what areas is the newly reorganized Division focusing its resources?

The case composition from last year is reflected in the following table:

Category

Percentage (rounded)

Investment advisers

20%

Broker-dealers

18.3%

Delinquent filings

17.3%

Securities offerings

12.1%

Financial fraud/issuer disclosure

10.8%

Insider trading

7.9%

Market manipulation

6.3%

Other

5.3%

FCPA

2.0%

The statistics, reported by Cornerstone Research in their latest report on securities litigation (here), are based on categories selected by the SEC staff.

A comparison of the composition of the SEC’s case load on a yearly basis since the passage of the Sarbanes-Oxley Act in 2002 is instructive. Last year the largest category of cases brought were those involving investment advisers, followed closely by actions against broker-dealers. An analysis of the Enforcement Division’s caseload over time shows that this represents a significant increase in the number of cases brought against investment advisers while the percentages involving broker-dealers has remained about the same.

In 2003 only 11% of the Commission’s cases involved investment advisers, or about half the number on a percentage basis as in 2012. While the percentage fluctuates each year, in the post SOX world the number of cases in this category did not significantly increase until about 2010 when it reached 17% followed by 20% in 2011 and again in 2012. At the same time the percentage of actions brought involving broker-dealers has remained in fairly consistent range of 20% in 2003 to about 18% last year. The significant uptick in investment adviser cases may be a function of not just the enhanced inspection program but the use of risk metrics in assessing hedge funds and the insider trading program which, in part also focuses on hedge funds.

The third largest category of actions last year was delinquent filings. The percentage of these cases has been relatively constant since it was first reported in 2007. At the same time the percentage of manipulation cases, many of which may involve shell companies and micro-cap fraud, has declined slightly in recent years. In 2003 these cases represented 16% of the Commission’s actions. That figure increased to a high of 21% in 2009 and 2010 but declined to just 12% in 2012. Those percentages seem contrary to the notion that these were areas of focus for the Division. The decline may, however, to some extent represent the success of the delinquent filing program.

One of the larger categories of cases last year was offering fraud. Interestingly, this category has actually declined in the last two years from highs of 21% 2009 and 2010 immediately following the Madoff scandal. Presumably this category contains a number of Ponzi scheme actions which have become a staple of enforcement in recent years.

In contrast, financial fraud, long a key area for the Division, appears to be on the wane. In 2003 29% of the cases brought by the SEC were in this category, almost triple on a percentage basis the number brought last year. Indeed, financial fraud cases continued to be the largest category of actions brought by the SEC until the last two years when the numbers dropped dramatically: 2003 – 29%; 2004 – 20%; 2005 – 29%; 2006 – 24%; 2007 – 33%; 2008 – 23%; 2009 – 22%; 2010 – 19%; 2011 – 12%; and 2012 – 11%. A number of factors might account for this change including the effectiveness of the SOX reforms. At the same time corporate financial fraud actions are complex and difficult to develop. In the sweeping Enforcement Division reforms and the zeal for speed this area may not be a key focus.

Finally, two areas of emphasis which receive a substantial amount of commentary in the press represent only a small part of the Division’s case load. Insider trading, perhaps the Division’s highest profile area, represented just less than 8% of its case load last year. That percentage is consistent with other years in the post-SOX era.

Similarly, FCPA actions, which are investigated by specialized groups based in various SEC offices, represented only 2% of the Division’s overall case load, down 1% from the prior year. The consistency of the results year to year appears to echo those of the insider trading program.

There is little doubt that following the reorganization of the Enforcement Division more cases have been brought. While insider trading and the FCPA continue to garner significant amounts of press, it is actions against investment advisers and probably hedge funds which seem to be the focus of the reorganized program. On the other hand traditional areas such as financial fraud may be receiving less emphasis.

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by T. GormanPosted on Posted in SECActions

Changes at the top of the SEC and the DOJ’s criminal division may signal a new direction for securities enforcement actions. Former U.S. Attorney Mary Jo White was nominated by the President to be SEC Chairman. At the same time Lanny Breuer, Assistant Attorney General in charge of DOJ’s Criminal Division will soon step down. The selection of a former U.S. Attorney to head the SEC rather than a seasoned securities regulator may suggest that a new, more aggressive approach is being sought for the agency.

The Supreme Court has agreed to consider a question regarding the application of the Securities Litigation Uniform Standards Act which was intended to prevent securities law plaintiffs from evading the stringent pleading requirements of the 1995 PSLRA. The question, brought in the context of litigation involving the Stanford Ponzi scheme, focuses on the reach of the Act. In another Stanford related case, the former CFO of Allen Stanford’s entities was sentenced to prison and had a $1 billon personal money judgment entered against him.

Finally, in 2012 the number of securities class actions filed declined significantly compared to recent years. In part the decline tracks a change in the composition of SEC enforcement actions. In recent years the number of financial fraud claims brought by the Commission has diminished. That decline is reflected in private litigation.

The SEC

Chairman: The President nominated former U.S. Attorney from the Southern District of New York Mary Jo White as Chairman of the SEC. If confirmed she would succeed Elisse Walter who has held the post since the resignation of Mary Schapiro in December 2012.

High speed trading: Congressman Edward J. Markey sent a letter to SEC Chairman Elisse Walter and former Chairman Mary Schapiro, dated January 18, 2013, requesting that the Commission use its authority under Exchange Act Section 9i to adopt rules limiting the use of high speed trading. That Section, in part, gives the Commission the authority to promulgate rules to prohibit or constrain “during periods of extraordinary market volatility” any trading practice previously determined to contribute significantly to extraordinarily levels of volatility and which is reasonably certain to repeat. The Congressman requested a response by February 7, 2013.

Remarks: Bruce Karpati, Chief, Asset Management Unit, Enforcement Division, Addressed questions at the Private Equity International Conference (New York, New York, Jan. 23, 2013). In his remarks he addressed: the reorganization of the enforcement division; recent cases involving private equity; focuses of the Unit for today which include fundraising, capital overhang and conflicts of interest; the use of risk analytics; and steps to reduce the risk of an inquiry which include integrating compliance risk into the overall risk management process (here).

The Supreme Court

SLUSA: Chadbourne & Parke LLP v. Willis of Colorado Incorporated, Nos. 12-79, 12-86 and 12-88. The Court agreed to hear a case which arises out of the litigation surrounding the Allen Stanford Ponzi scheme. It 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 securities that are covered by the statute. Specifically, here plaintiffs purchased CDs from Mr. Stanford’s bank which are not covered by SLUSA but were supposedly backed by securities covered by the Act. The district court concluded that SLUSA required the cases be dismissed. The Fifth Circuit reversed. The Court did not agree to hear a second question regarding whether SLUSA applies to claims of aiding and abetting which were brought against the law firm.

Class actions

Statistics: The number of class actions filed last year dropped significantly, according to a new report from Cornerstone Research titled Securities Class Action Filings, 2012 Year in Review (here). Last year 152 securities class actions were filed compared to 188 in 2011, 176 in 2010 and 167 in 2009. Overall this is the second lowest number of actions filed in one year since 1997. The lowest was 2006 when only 120 actions were filed. The reduction is due in part to a decline in cases involving Chinese reverse mergers and M&A transactions. It is also noteworthy that the number of financial fraud actions brought last year was reduced to 23% of the total from 37% in the prior year. At the same time the composition of SEC enforcement actions also changed, showing a continuing decline in cases involving financial fraud in recent years from a high of 33% in 2007 to 11% in 2012.

SEC Enforcement: Filings and settlements

Weekly statistics: This week the Commission filed 1 civil injunctive actions and no administrative proceedings (excluding tag-along-actions and 12(j) actions).

Unregistered offering: SEC v. Glichrist, Civil Action No. C.A. 4:13-cv-00163 (S.D. Tex. Filed Jan. 23, 2013) is an action against Jonathan Gilchrist centered on the sale of unregistered securities. Mr. Gilchrist, according to the complaint, authorized the unregistered offer and sale of six million shares of Mortgage Xpress, Inc. to himself, claiming the securities were exempt from registration. At the time of the transaction in December 2007 Mr. Gilchrist was the president and chairman of the company. The shares were not exempt from registration. The next year Mr. Gilchrist conducted 25 wash sales of company shares over a three month period, driving up the share price after a reverse stock split. During the period the defendant sold 229,661 shares, reaping profits of $692,146.38. The complaint alleges violations of Securities Act Sections 5(a), 5(c), 17(a)(1), 17(a)(3) and Exchange Act Section 10(b). The case is in litigation. See also Lit.. Rel. No. 22599 (Jan 23, 2013).

False statements: In the Matter of Egan-Jones Ratings Company, Adm. Proc. File No. 3-14856 (Jan. 22, 2013)is a previously filed proceeding which named as Respondents Egan – Jones Ratings Company and Sean Egen, its founder and president. This week both Respondents settled, ending months of contentious litigation. 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 for two classes of securities. 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).

To settle the administrative proceeding the firm agreed to adopt a series of procedures to remedy the deficiencies cited in the Order. The terms of the settlement also provide 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 be revoked; Mr. Egan 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.

Criminal cases

Investment fund fraud: The former CFO of Stanford International Bank and Stanford Financial Group, James Davis, was sentenced to serve five years in prison based on his role in the massive Ponzi scheme. A personal money judgment of $1 billion was also imposed. During the sentencing the court noted the cooperation of Mr. Davis.

FINRA

Misuse of customer securities: The regulator filed a complaint and a temporary cease and desist order against Westor Capital Group, Inc. and its President and CCO and FOP Richard Bach. The temporary order was designed to freeze accounts. The complaint alleges that the firm has failed to permit customers to withdraw their funds, failed to deliver securities, misused customer securities and failed to maintain physical possession or control of securities. The firm focuses on trading microcap securities through its account and maintained several brokerage accounts. The firm and its president can request a hearing before a FINRA disciplinary panel.

FSA

Insider dealing: The regulator continued to focus on insider dealing. This week it executed four search warrants as part of an on-going inquiry. It is currently holding eight individuals who are being questioned in connection with market abuse charges.

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