by T. GormanPosted on Posted in SECActions

The SEC is about to shift the way it assesses corporate penalties according to a story in the Washington Post today. Under a new formula crafted by SEC Chairman Cox, enforcement staff will have to obtain authority from SEC Commissioners prior to beginning negotiations with defense counsel on corporate penalties. Under the new methodology, the staff reportedly will be given specific authority on a case by case basis for negotiating corporate penalties. That authority may include a specific range for the penalty.

The new Chairman Cox system contrasts sharply with the traditional approach. Until now the enforcement staff typically negotiated with defense counsel over whether a penalty should be imposed and, if so its amount. Once an agreement was reached it was submitted along with the balance of the proposed settlement terms to the Commissioners for approval. According to an SEC spokesman, who apparently is the source for the Washington Post article, the new process is designed to speed a resolution of these matters and add to investor protection.

The SEC has been criticized for what some have called the increasingly harsh tone of its enforcement program. Some news reports have suggested that the five Commissioners are divided over the imposition of corporate penalties, with some arguing that the imposition of fines on companies only further harms the shareholders. These criticisms lead to the issuance by the SEC of its Statement on Financial Penalties on January 4, 2006. www.sec.gov/news/press/2006-4.htm. According to this statement the SEC considers a number of factors in determining whether to impose a penalty on an organization and if so the amount. The two key factors are suppose to be the presence or absence of a benefit to the corporation and the degree to which it will recompense/harm shareholders. This statement is the first of its kind by the SEC.While the SEC’s Statement on Penalties was a welcome first step, in reality it has done little to illuminate the process by which the agency determines whether to impose a penalty or how it decides on the amount. A review of recent settlements with issuers suggests only once constant — the SEC seems to be demanding a penalty almost as a matter of course. In what is perhaps the ultimate irony the SEC, which is suppose to be a disclosure agency fostering corporate transparency, discloses virtually nothing about how it determine corporate penalties. The SEC’s releases discussing settlement typically do not discuss how any of the factors in its Statement on Financial Penalties were applied in the case. Indeed, perusing through SEC corporate consent decrees suggests that the amount of the penalty has little to do with the underlying conduct. Rather, the amounts appear to be almost random.

The new policy being instituted by SEC Chairman Cox does not appear to address the transparency issue. Likewise, it is hard to see how it will speed the process or add to investor protection. What it will do for sure is give the Commissioners more direct impute into the settlement negotiations, although the Commissions already have all the impute they want if they chose to exercise their authority since everyone knows that a settlement negotiated with the staff is not final until approved by the Commissioners. The new Chairman Cox procedure will however add another layer of red tape to an agency which is already far to slow.

What the SEC really needs to do is disclose how it applies the factors in its Statement on Financial Penalties in particular cases. If this is going to part of the new initiative by Chairman Cox, then the extra layer of red tape may be worth while. If not, then it will just be more process which will slow an already far to slow process.

by T. GormanPosted on Posted in SECActions

SEC Enforcement Trends – Conclusion 

An analysis of recent SEC statements and selected enforcement cases suggests several key trends that issuers, directors, officers and those who provide services to public companies should carefully monitor and consider.  The aggressive enforcement positions being taken by the agency suggest prudent prevention steps for companies, directors, officers and professionals. 

Enforcement policies.  Three key events to monitor in coming months that may significantly impact enforcement actions: 

            The decision by the Ninth Circuit concerning SEC Form 1662 in U.S. v. Stringer.  If the court upholds this case and rejects the SEC’s argument that Form 1662 is an adequate warning regarding whether a parallel criminal inquiry is being conducted, it could significantly change the way in which the Enforcement Division conducts investigations.  Specifically, for the first time SEC enforcement attorneys may be required to disclose the fact that there is a parallel criminal investigation rather than relying on stock warnings or slogans such as “assume the worst.”  

            Further proceedings in SEC v. Reyes, et. al., and U.S. v. Reyes, et al.  The court noted in ruling against a defense motion to compel that it would take appropriate action and level the playing field, if necessary, as trial approached.  The defendants in the SEC enforcement action, which the court refused to stay despite government requests, had argued that SEC attorneys had access to evidence from the DOJ witness proffer sessions that defendants could not obtain.  A subsequent ruling here could impact the manner in which the DOJ and the SEC share evidence in parallel cases.  

            The SEC may amend its cooperation policy.  Congress and the ABA continue to pressure the SEC to revise the Seaboard Release to eliminate the so-called “culture of waiver.”  A revision of these cooperation standards eliminating the need to waive attorney-client privilege and work product protection would significantly impact how issuers approach settlement discussions with the SEC.  A related issue is proposed Federal Rule of Evidence 502, which contains a selective waiver provision long favored by the SEC but almost routinely rejected by the courts and Congress.  Adoption of this rule would virtually compel issuers to waive privilege as to the SEC to gain cooperation credit.  The difficulty with this approach is that the SEC cannot assure that the information will be protected.  

Backdated Options cases.  The SEC brought a few cases quickly earlier this year.  The fate of the remaining 140 or more companies also being investigated may be determined later this year as well.  Key developments will include: 

            Standards:  A key question given the number of investigations is the standards used to select cases.  Some indication of this may arise from the trial of U.S. v. Reyes, et al., in June. 

            Scope of liability:  As the investigations proceed the DOJ and the SEC will carefully review the conduct of directors, officers, in-house and outside counsel, accountants and others.  A key question will be the scope of the gatekeepers and third-parties the SEC targets. 

Hedge Funds:  Chairman Cox’ comments to Congress assuming that these funds will not go unregulated in the wake of Goldstein, the cases brought last year, and recent rule writing efforts, assure that there will be regulation by enforcement action in this area in the future.  The current Wall Street sweep, for example, focuses in part on hedge funds.  

Financial fraud:  No doubt the SEC will continue to focus on this traditional enforcement area.  A key question here will again be the scope of liability and the focus on those outside an issuer who render services and participate in transactions.  

FCPA:  In view of increased globalization there should be more emphasis in this key enforcement area in the future.  The Enforcement Division has already initiated significant cases in this area in 2007. 

Insider trading:  This key enforcement priority seemed to witness a huge revival with the filing of SEC v. Guttenberg, et al., earlier this year.  That case has been called the most significant insider trading case since the 1980’s and the days of Ivan Boesky, Dennis Levine and others caught up in the scandals of the times.  Couple this case with the very aggressive sweep currently being conducted on Wall Street and there should be little doubt that insider trading will continue to be a priority.  If those actions are not sufficient indication of the Division’s intent, every officer and director should review the remarks of Enforcement Chief Linda Thomsen suggesting that the so-called safe harbor of Rule 10b-5-1 plans many no longer be safe – those using the plans could find themselves in an insider trading inquiry. 

Gate Keepers:  The Enforcement Division will continue to focus on this key area, carefully reviewing those it views as the “advance guard” to many corporate activities.  Included here are directors, attorneys and auditors.  Clearly, the actions of the gate keeps will continue to be scrutinized carefully in connection with financial fraud cases, option backdating, FCPA compliance and insider trading. 

Finally, an analysis of these trends suggests that there will be an aggressive SEC Enforcement program moving forward.  The division clearly intends to push the envelope on the facts and the law, as it has in the past.  Some of those actions will be keyed to those called the gate keepers because of their vital role.  No doubt the SEC will, as in the past, bring cases that cannot be sustained.  In other instances, it will bring cases on which it will prevail.  This counsels the prudent company, director, officer, attorney, account or other service provider to carefully review these areas, analyze existing compliance programs and take reasonable steps to avoid becoming entangled in situations which could lead to inquiries, investigations and enforcement actions.