by T. GormanPosted on Posted in SECActions

This week, the on-going saga of the SEC’s litigation against Bank of America drew closer to resolution with tentative court approval of a proposed settlement. The Commission voted 3-2 to adopt the alternative uptick rule. SEC enforcement brought another case based on the Madoff fraud, an insider trading action and more investment fund fraud cases. DOJ obtained a guilty plea in another Ponzi scheme and an FCPA case.

Market crisis

The Commission adopted the new alternative uptick rule this week over the strong dissent of Commissioner Paredes as discussed here. In essence, the rule would go into effect when a “circuit breaker” is tripped. That happens if the price of a security declines by 10% or more from the close of the previous day. In that instance, the “alternate uptick rule” goes into effect for the balance of the day and the next. The rule applies generally to all securities traded on a national securities exchange, as well as those in the over-the-counter markets. It also requires traders to establish and maintain certain procedures designed to aid implementation and enforcement of the rule.

SEC v. Bank of America

Judge Jed Rakoff tentatively approved the latest proposed settlement of the Commission’s two cases against the bank, subject only to submission of the final papers modified pursuant to suggestions by the Court. The underlying cases claim that the bank improperly failed to disclose to shareholders voting on the acquisition of Merrill Lynch by the bank billions of dollars in approved bonuses for executives of the broker and unprecedented fourth quarter losses of Merrill which undermined the value of the deal as discussed here.

Although the parties won approval of the new settlement, discussed here, the Court made it clear that approval was given reluctantly. Throughout its opinion, the court repeatedly returned to two points. One concerned the culture of Bank of America, which it described as being based on a presumption of non-disclosure. While the corporate governance provisions of the settlement will help correct this, they apparently did not go far enough for the Court.

The second point focused on the penalty. While the penalty is modest for both cases, according to Judge Rakoff, the critical problem is that it is really inflicted on the shareholders. If it is to have any significant deterring impact, it must be imposed on the individuals responsible. Since neither the fine, nor the remedial measures are directed at the specific individuals involved, the impact is likely to be “very modest” and results in “half-baked justice . . .,” according to the Court. In the end, however, the Court deferred to the parties, noting its limited role in approving settlements. Accordingly, the settlement will be approved when modified papers are submitted which adopt additions proposed by the Court to strengthen the governance provisions.

SEC enforcement actions

Insider trading: SEC v. Foley, Civil Action No. 1:00-cv-00300 (D.D.C. Filed Feb. 25, 2010) is an insider trading case brought against John Foley, Aaron Grassian, Timothy Vernier and Bradley Hale. According to the SEC, Mr. Foley, who worked as an employee benefits specialist at Deloitte, obtained material non-public information regarding three firm clients which was passed to Messrs. Grassian and Vernier. Each traded at a profit. Mr. Grassian later returned the favor by providing material non-public information to Mr. Foley about a take-over. Mr. Grassian learned about the pending deal from Mr. Hale, who was employed at one of the companies. Mr. Hale did not trade. To settle the case, each defendant consented to the entry of a permanent injunction prohibiting future violations of the antifraud provisions. Each of the three defendants who traded also agreed to disgorge their profits which collectively exceeded $210,000 and pay prejudgment interest. Mr. Foley did not pay a penalty and Mr. Vernier paid a reduced penalty based on their financial condition. Mr. Grassian agreed to pay a penalty equal to his trading profits. See also Litig. Rel 21425 (Feb. 25, 2010).

In a related administrative proceeding, Tara Eisler, who permitted Mr. Foley to repeatedly use her brokerage account to trade in the securities of firm clients consented to the entry of a cease and desist order that she not engage in future violations of Exchange Act Section 10(b). In the Matter of Tara L. Eisler, Adm. Proc. File No. 3-13792 (Filed Feb. 25, 2010).

Cover-up/fraud: SEC v. Bonventre, Case No. 10 CV 1579 (S.D.N.Y. Filed Feb. 25, 2010) is an action against the former director of operations of Bernard Madoff Investment Securities. The complaint alleges violations of the antifraud provisions of the Securities Act, the Exchange Act and the Advisers Act and aiding and abetting violations of Exchange Act Sections 15(c) and 17(a). Mr. Bonventre, who worked for the Madoff firm for thirty years, is charges with helping conceal the fraud by falsifying the books and records of the broker dealer by not properly accounting for the investor funds. To conceal the fact that the firm was operating at a significant loss, over $750 million in investor funds were used to bolster the finances of the firm. According to the SEC’s complaint, Mr. Bonventre made about $1.9 million as part of the scheme. See also Litig. Rel. 21424 (Feb. 25, 2010). The U.S. Attorney’s Office for the Southern District of New York filed parallel criminal charges, discussed below.

Investment fund frauds: SEC v. Loomis, Case No. 2:10-cv-00458 (E.D. Cal. Filed Feb. 23, 2010) is an action against Lawrence Loomis and his father-in-law John Hagener. According to the SEC, the two men, and their controlled entities, misappropriated about $10 million raised from about 100 investors. The money was raised at “Loomis Wealth Solutions” seminars in 2007 and 2008. Investors were told that their funds would be loaned to home buyers and secured by real estate. A 12% return was supposedly guaranteed by a third party. In fact, the funds were misappropriated. The fraud complaint is in litigation. See also Litig. Rel. 21422 (Feb. 23, 2010).

Investment fund frauds: SEC v Pacific Asian Atlantic Foundation, Case No. CV 10-1214 (C.D. Cal. Filed Feb. 18, 2010) is an action against Samuel M. Natt and his controlled entity Pacific Asian Atlantic Foundation. The foundation is supposedly a non-profit humanitarian organization based in California. Mr. Natt, over a three year period beginning in 2009, created billions of dollars in bonds supposedly issued by the company. The bonds were bolstered by false financials. The scheme was to deposit the bonds with brokers and then use them as the basis for loans. Despite repeated efforts Mr. Natt failed to actually implement the scheme as discussed here. The case was settled when Mr. Natt and his company consented to the entry of permanent injunctions prohibiting future violations of Sections 17(a)(1) &(3) of the Securities Act. Mr. Natt also agreed to pay a penalty of $50,000. See also Litig. Rel. 21417 (Feb. 19, 2010).

Criminal cases

U.S. v. Bonventre, Case No. 10 Mag 385 (S.D.N.Y. Filed Feb. 25, 2010) charges Daniel Bonventre, formerly the director of operations for Bernard Madoff Investment Securities, with conspiracy and securities fraud. According to the criminal complaint, Mr. Bonventre, who was arrested yesterday, helped Mr. Madoff conceal the largest Ponzi scheme in history. The SEC filed a parallel civil case which is discussed above.

U.S. v. Nadel, 1:09-cr-0433 (S.D.N.Y.) is a Ponzi scheme case in which promoter Arthur Nadel pleaded guilty to fifteen fraud counts. According to the indictment, Mr. Nadel ran a classic Ponzi scheme through which he raised over $350 million from about 370 investors over a ten year period beginning in 1999. During the operation of the scheme, Mr. Nadel told potential investors that his fund yielded between 11% and 55% per year when in fact it had negative results. As part of the plea, Mr. Nadel will forfeit $162 million. Sentencing has not been scheduled.

FCPA

U.S. v. Fourcand, 10 cr 20062 (S.D. Fla. Filed Feb. 1, 2010) is an FCPA case based on a one count information alleging money laundering which named Jean Fourcand as a defendant. Mr. Fourcand, who pleaded guilty to the information, is alleged to have been involved in a scheme to bribe an official of the Republic of Haiti’s state owned national telecommunications company. Specifically, Mr. Fourcand admitted he received funds between November 2001 and August 2002 from U.S. telecommunications companies used to make improper payments to the foreign officials. Mr. Fourcand agreed to forfeit $18,500 in connection with the plea.

Alcatel-Lucent SA has, reportedly reached a tentative agreement with the Department of Justice and the SEC to resolve FCPA charges. The charges stem from bribes paid in Costa Rica, Taiwan and Kenya, according to a company filing. Under the agreement, Alcatel-Lucent SA will enter into a deferred prosecution agreement with the Department and pay a fine of $137.4 million, of which $92 million is a criminal fine and $45.4 is a civil penalty paid in connection with the SEC settlement. Three subsidiaries, Alcatel-Lucent France, Alcatel-Lucent Trade and Alcatel Centroamerica will plead guilty to violating the anti-bribery provisions of the FCPA.

State cases

The NY AG continues to resolve actions stemming from the crash of the auction rate securities market. This week the AG settled with Oppenheimer. Under the terms of the agreement, the firm will repurchase ARS from individuals, charities, non-profits and other small investors. It will later attempt to buy back other frozen ARS when resources become available. This settlement reflects the same basic pattern as others in this market.

by T. GormanPosted on Posted in SECActions

The subject of short selling tends to create controversy. Since at least the abolition in 2007 of the 1930s era uptick rule which was designed to curb abusive short selling, the debate has continued over the merits of short selling. The SEC’s temporary restrictions on the practice as the market crisis unfolded in 2008 for example, provoked strong opinions on both sides of the debate. Since then, the Commission has taken a number of steps regarding short selling.

The tradition of controversy continued this week at the Commission’s open meeting which resulted in the adoption of the “alternative uptick” rule by a 3-2 vote. The Chairman and other members of the SEC such as Commissioners Walter and Aguilar favored adoption of the rule. Commissioners Paredes and Casey on the other hand did not. Each side claimed that investor confidence supported their position. Neither side could definitively prove its point. The new rule, however, is in effect.

The new alternative uptick rule is well summarized in the open meeting remarks of Chairman Schapiro. Briefly, the rule would go into effect when a “circuit breaker” is tripped. That happens where the price of a security declines by 10% or more from the close of the previous day. In that instance, the “alternate uptick rule” goes into effect for the balance of the day and the next. The rule applies generally to all securities traded on a national securities exchange, as well as those in the over-the-counter markets. It also requires traders to establish and maintain certain procedures designed to aid implementation and enforcement of the rule.

Chairman Schapiro endorsed the rule as a product of the market crisis. While short selling clearly has benefits, it also can be destabilizing to the markets, she noted. The new rule will prevent manipulation and, when the circuit breaker is tripped, put long traders at the head of the line according to Ms. Schapiro. Commissioner Aguilar echoed Ms. Schapiro’s support for the rule while prodding Congress to move forward with market reform and fill the gaping hole in current regulation regarding swaps.

Commissioner Walter found the decision most difficult, but ultimately supported the rule as a measured response. After noting that she has been intensely lobbied by both sides of the short selling debate, Ms. Walter went on to state that while short selling can be very beneficial to the markets, it can also have detrimental effects. The numerous studies of those effects are, at best, “mixed” according to the Commissioner. Accordingly, she would not favor short sale restrictions on a market wide basis. Since the rule being adopted is measured and only applies in certain limited circumstances – when the circuit breaker is tripped – Ms. Walter favored adoption.

In contrast, Commissioner Tory Paredes offered a lengthy dissent from the adoption of the rule. In essence, Commissioner Paredes argued that there is no evidence that adopting the rule would bolster investor confidence in the markets, which is one of the main rationales offered in support of the rule. Rather, the Commission is being inconsistent at best with the adoption of this rule according to Mr. Paredes. On the one hand, it has lengthy studies which supported dropping the initial version of the uptick rule. Now, however, it is adopting a modified version of that rule despite the fact that little has changed since the old rule was disregarded. The market crisis, according to Commissioner Paredes, did not change this fact.

In sum, Commissioner Paredes argued: 1) short selling is essential to proper market functioning and price discovery; 2) there are already sufficient restrictions in place; 3) the prior empirical research which supported dropping the old uptick rule is still valid; and 4) the adoption of the rule will be costly in terms of its implementation and its potentially negative impact on proper functioning markets, price discovery and investor confidence.

By the end of the Commission’s open meeting two points were clear: First, the rule was adopted. Second, both sides claim that investor confidence is critical to their position, despite what Commissioner Walter called the “mixed” results of the studies. In the end, there is little doubt that the controversy regarding the impact of short selling will continue.