SEC enforcement has traditionally combined the functions of the cop on the beat and regulation through litigation. The policies and procedures which govern the SEC’s enforcement efforts can have a critical impact on those involved in its cases. While some policies served the program well, others have led to calls for reform, most of which have gone unheeded.

Cooperation is a key policy. On one side is cooperation with other regulators, and on the other is the cooperation of issuers and others with the SEC. While the SEC has traditionally cooperated with other regulators, those efforts seems to be increasing, particularly with DOJ. Many of the SEC’s high profile insider trading and FCPA cases last year were brought with either the assistance of foreign regulators or criminal prosecutors. The TXU Options case (SEC v. One or More Unknown Purchasers of Call Options of the Common Stock of TXU Corp., Civil Action No. 1:070cv-01208 (N.D. Ill. Marc 2, 2007)) is just one of a series of cases in which the SEC acknowledge the assistance of foreign regulators. In that case the Commission thanked the U.K. Financial Services Authority and the Swiss Federal Banking Commission for their assistance.

In the Chevron FCPA case (SEC v. Chevron Corp., Civil Action No. 07-10299 (S.D.N.Y. Nov. 14, 2007)) the SEC coordinated with the Office of the U.S. Attorney, the Manhattan District Attorney and the Office of Foreign Asset Control. This is just one of a rising tide of cases in which the SEC is working with criminal prosecutors.

The other facet of cooperation is issuers and others assisting with the SEC’s regulatory and investigative efforts in the hope of receiving credit in the prosecutorial charging process. The SEC’s policies on cooperation are set forth in its 2001 Seaboard Release which details considerations for charging a business organization. Like those of DOJ, the policies offer business organizations the prospect of credit in return for cooperation. Like those of DOJ, they reference the prospect of privilege waivers as part of what may constitute cooperation. Like those of the DOJ, those policies have been under fire for fostering a “culture of waiver” in which the waiver of important rights like the attorney client privilege is the currency which purchases cooperation credits in the charging decision.

While DOJ has revised its policies and Congress is considering legislation, the SEC has steadfastly maintained that waivers are not a perquisite to cooperation. Linda Thomson, Director the SEC’s Enforcement Division, made this clear in a speech in April 2007. In her speech Ms. Thomson cited two examples of cases in which the issuer received cooperation credit that impacted the resolution of its case. In one, the company waived privilege. In the other it did not. In the former the company was not prosecuted. In the latter the company was prosecuted.

The debate over the waiver of privilege however, is only one part of the debate about cooperation credit. A more fundamental difficulty is what credit the company receives and its value in contrast to the difficulties waivers and cooperation may cause for the company. A close study of SEC cases in which the agency acknowledges cooperation reveals little. Consider for example the following examples:

SEC v. Wagner, Civil Action No. 07-22123 (D.D.C. Dec. 7, 2007) involved a corporate director who traded in advance of a corporate event and then self reported to the SEC. The case was resolved with a standard consent decree and the payment of disgorgement but no penalty.

The Retirement System of Alabama, Release No. 574461 (March 6, 2008) involved a pension system which obtained inside information and used it to trade. The system did not have any procedures according to the Commission to prevent insider trading. The investigation was resolved with a Section 21(a) report and no enforcement action.

SEC v. The BISYS Group, Inc., 07-Civ-4010 (S.D.N.Y. Filed May 23, 2007) concerned a company that engaged in a pervasive corporate accounting fraud involving its senior management. The SEC acknowledged “extensive cooperation.” The case settled with a books and records injunction.

SEC v. Nortel Networks, Corp., Case No. 07-CV-051 (S.D.N.Y. Oct. 15, 2007) saw a company engaged in financial fraud by improperly accelerating revenue recognition and improperly established and maintained reserves. The SEC acknowledged Nortel’s “substantial remedial efforts and cooperation.” The case settled with a consent to a statutory injunction prohibiting future violations of the antifraud and reporting provisions and the payment of a $35 million civil penalty.

Precisely why Wagner ends with an injunction, while Retirement System of Alabama concludes with a Section 21(a) report is difficult to determine. Perhaps even more difficult to parse is the difference between the corporate fraud cases where one company is not fined and anther pays a very substantial penalty. The lack of transparency in this area, coupled with the “culture of waiver” questions, makes it most difficult for any person to assess how to proceed with the SEC. That difficulty is compounded by the rise of parallel proceedings and the SEC’s policies in that area.

Next: Parallel proceedings and calls for increased transparency in Enforcement procedures

This week, the Ninth Circuit handed down a significant parallel proceedings ruling. At the same time the SEC brought another in a series of financial fraud cases, while the U.S Attorney in New York resolved the last of the criminal cases related to the Guttenberg insider trading cases brought last year. Home Depot also resolved securities class actions and derivative suits based on options backdating.

Parallel proceedings

The Government prevailed in a key parallel proceedings decision last week. On April 4 2008, the Ninth Circuit Court of Appeals vacated the decision of the District Court which had dismissed an indictment finding that the defendants’ constitutional rights had been violated by the conduct of the U.S. Attorney’s Office and the SEC in conducting investigations which had merged. U.S. v. Stringer, 408 F. Supp. 2d 1083 (D. Or. 2006), vacated and remanded, No. 06-30100 (9th Cir. April 4, 2008). The Circuit Court concluded that the conduct of government prosecutors and SEC attorneys was not improper where they did not make affirmative misrepresentations and, in response to questions about a possible criminal investigation, referred the defendants to the boilerplate warnings in Form 1662.

The court did not find it improper that: 1) the investigations of the USAO and SEC merged; 2) that the U.S. Attorney’s office hid behind the SEC during its investigation from the outset when they had determined the targets of the inquiry; 3) that prosecutors coached SEC staff attorneys on how to set up its targets for possible false statement charges; 4) that the SEC moved the testimony of the defendants from Los Angeles to Oregon at the request of members of the U.S. Attorney’s Office to establish venue in that jurisdiction for the criminal case; and 5) that the criminal prosecutors decided to keep their inquiry secret to make sure the defendants continued to cooperate with the SEC by testifying in its inquiry and then entering into a settlement. This case and its potential adverse impact on law enforcement investigations are discussed more fully here.

Financial fraud

Civil and criminal fraud charges were filed against the former vice chairman, president and chief financial officer of United Rentals, Inc., John Milne. According to the SEC’s complaint, Mr. Milne engaged in a fraudulent scheme from 2000 to 2002 in which he falsely inflated the profits of the company to meet earnings forecasts. As a result, the company filed false Form 10Ks and Qs. At the same time Mr. Milne is alleged to have sold about $38 million of company stock after the false filings were made. SEC v. Milne, Civil Action No. 3: 08-CV-505 (D. Conn. April 7, 2008). This case is discussed here.

Previously, criminal charges were brought against Mr. Milne. The indictment included charges of conspiracy, securities fraud and making false statements. U.S. v. Milne, 3:08-cr-00090 (D. Conn. Filed April 3, 2008).

The SEC brought two prior related actions. SEC v. Nolan, Civil Action No. 07-CV-1833 (D. Ct. Filed Dec. 12, 2007) is a settled enforcement action brought against Michael Nolan, the former CFO of United Rentals based on essentially the same conduct. Mr. Nolan consented to the entry of a statutory injunction prohibiting future violations of the antifraud and books and records provisions of the securities laws, an order imposing an officer director bar and an order suspending him from practicing before the Commission. Mr. Nolan also pled guilty to one count of making false filings with the SEC in the parallel criminal case.

In addition, the SEC filed an action against Joseph F., Apuzzo, the former CFO of Terex Corporation. SEC v. Apuzzo, Civil Action No. 07-CV-1910 (D. Ct. Filed Dec. 31 2007). The complaint in that case alleges that Mr. Apuzzo aided and abetted the fraud at United Rentals. This case is in litigation.

Insider trading

This week Samuel Childs, a former broker at Assent LLC, a securities broker-dealer, pled guilty. Mr. Childs was the last of the defendants in the criminal cases brought last year when investigators uncovered a large insider trading ring involving Wall Street professionals. The Guttenberg cases, which have been called the most significant since the late 1980s, are based on two overlapping schemes. One scheme was based on trading in advance of stock recommendations from UBS. As second involved trading on inside information obtained from Morgan Stanley about pending transactions. The SEC named fourteen individuals in its case. SEC v. Guttenberg, Case No. 107-cv-01774 (S.D.N.Y. Filed March 1 2007). That case is pending. Thirteen persons were named as defendants in the related criminal cases. U.S. V. Jurman, Case No. 1:07-cr-00140-TPG (S.D.N.Y. Filed Feb. 26, 2007). The plea by Mr. Childs resolves the last of the criminal cases. U.S. v. Childs, 1:07-cr-00142 (S.D.N.Y. Filed Feb. 26, 2007). These cases are discussed here.

Shareholder suits settled

Home Depot entered into a settlement of securities class actions and derivative suits brought against it based on claims of option backdating. Specifically, the complaints claimed that for nearly 20 years the board had backdated options granted to executives, fraudulently manipulated the company’s return to vendor program under which suppliers are billed for damaged or returned merchandise and gave disproportionate payments and benefits to the former chairman of the company.

The suits were settled with the payment of $14.5 million and the adoption of thirteen corporate governance changes. Those changes included requirements which ensure that two thirds of the board members are independent, that certain committees were only composed of independent directors and other governance changes.