SEC Enforcement Cases: Focus On Individuals, Declining Corporate Penalties

NERA Economic Consulting has developed a proprietary database of post-SOX SEC enforcement statistics which provides interesting comparative data.

First, the statistics demonstrate that most enforcement cases are brought against individuals. Since the passage of Sarbanes Oxley, the SEC has filed over 4,700 enforcement actions. About three times as many of those actions named individuals as defendants compared to corporations.

By far, the largest category of cases involves microcap fraud, which includes boiler room operations, pump and dump schemes, fraudulent offerings and similar matters. The next largest category involves misstatements and omissions. That category includes option backdating. Insider trading is number five on the list (misappropriation of investor funds in ponzi schemes and misrepresentations to investors are, respectively three and four). While misstatements and omissions would appear to be a type of case which focuses on issuers, 700 individuals were charged in these cases while only 197 companies were named as defendants in the post-SOX time period.

For 2008, NERA projects that the number of settled cases based on misstatements will increase. The report projects that there will be 157 settled cases in this category for 2008, up slightly from 151 in 2007. If the projection is correct, it will be the highest post-SOX number in this category. The dollar value of those settlements is projected to fall, however. The high was in 2006 at about $50 million, while for 2008 the value it projected to be only $12 million. The projected 2008 amount is less than half that of 2007, but exceeds the amounts for 2002 through 2005.

The report also projects a record number of settlements for 2008. Following three years of decline (from 898 in 2003 to 663 in 2006), the report projects that the SEC should settle 739 cases in 2008. That increase however, is being driven by settlements with individuals, not issuers. The projection suggests that the SEC will have 568 settlements with individuals compared 171 with business organization. If that projection is correct, it would be the lowest number of company settlements since the passage of SOX.

The potential decrease in company settlements also appears to be reflected in the amount of penalties being imposed on issuers in SEC enforcement actions. From 2002, when SOX was passed, through 2006, the mean amount of those penalties rose from $0.01 to $1.5 million. While the projected mean settlement for 2008 of $1 million exceeds the 2007 mean by about $0.3 million, it is the lowest since 2003. This may reflect the impact of the new procedure instituted by Chairman Cox for the consideration of corporate penalties, discussed here. This also seems to track the mean value of corporate SEC settlements, which peaked in 2003 and for 2008 is projected to decline to its lowest value since 2002. Similarly, the monetary component of corporate settlements with the SEC is predominately composed of penalties rather than disgorgement, while the opposite is true for individuals.

Overall, while SEC enforcement actions seem to focus on individuals and the number of settled cases may be increasing overall in the post-SOX era, the percentage of those brought against issuers is declining, as is the dollar value of corporate settlement, which is, in large part, penalties rather than disgorgement.

An Unusual Insider Trading Case And Chairman Cox On International Enforcement

Insider trading suits continue to be a key focus in securities litigation. At the same time, SEC Chairman Cox highlighted the internal enforcement efforts of the Commission in a recent speech.

There is little doubt that insider trading has been a focus of the SEC in recent cases. This time however, a novel insider trading suit was not brought by the SEC, but a private litigant. The plaintiff in a new insider trading case is accounting giant Deloitte LLP. The defendant is a former partner and vice chairman of the firm resident in the Chicago office, Thomas Flanagan.

Mr. Flanagan, a thirty year veteran of auditor, has been accused of insider trading by his former firm. The suit claims he traded on inside information from an audit client regarding a take over. Indeed, overall the complaint claims Mr. Flanagan traded on inside information regarding twelve different clients over a three year period. The suit also alleges that Mr. Flanagan violated firm independence rules as to three clients.

The firm did not name the clients. According to a report in the Chicago Tribune, one deal involved in the insider trading claim concerned the acquisition by Walgreen Co. of Option Care Inc., in July 2007. That same report also suggests that clients Allstate Corp. and USG Corp. may have been involved.

The suit by Deloitte is aggressive and unusual. Indeed, the SEC is reportedly investigating the matter; its inquiry is incomplete at this point.

The internationalization of enforcement was the theme of a November 7 speech from SEC Chairman Cox. In his speech, Mr. Cox highlighted the Enforcement Division’s efforts at international enforcement. For example, last year the SEC made 556 requests of foreign regulators for assistance with its investigations. During the same period the Commission received 454 requests from foreign regulators for assistance.

Currently the Enforcement Division is working on 12 open subprime investigations with foreign regulators. Other recent highlights in the international area include:

• A recent ruling by the High Court of Justice in London ordering an asset freeze in the UK against a UK citizen who was a defendant in a pending SEC actions in Boston;

• A recent temporary restraining order the SEC obtained to freeze millions of dollars with the assistance of the Swiss Federal Banking Commission; and

• In another case still underway, the SEC is tracking a securities fraud scheme masterminded by a Spanish national in Barcelona who operated through a number of offshore companies based in Panama, Dominica, Belize, and the British Virgin Islands.

Overall the Chairman emphasized the continuing internationalization of SEC Enforcement.