SEC Wins Summary Judgement In Muni Flipping Case

Municipal bonds is an area in which the Commission has limited authority. Nevertheless, the agency has periodically focused on the area. In 2016 the Commission conducted a very successful cooperation initiative. Two years ago, the agency began to focus on improper tactics in the muni IPO market. A series of enforcement actions were launched claiming fraudulent tactics were undercutting new offerings. See, e.g. SEC v. Core Performance Management, LLC, Civil Action No. 18-cv-8181 (S.D. Fla. Filed August 14, 2018). This week the Commission prevailed on a summary judgment motion in one of those cases. SEC v. RMR Asset Management Company, Civil Action No. 18-CV-1895 (S.D. CA. Ruling Aug. 17, 2020).

The firm, its founder, Ralph Riccardi, and Jocelyn Murphy, Michael Murphy and Richard Gounaud, each of whom worked with the firm, are named defendants. Each was paid a percentage of the profits from the firm’s muni bond transactions.

Many muni offerings are oversubscribed. As a result certain checks and balances are often built into the offering process by the issuer. Those safeguards ensure, for example. that the securities are allocated to retail investors. The safeguards tend to thwart dealers who attempt to use multiple accounts to purchase a large part of the offering. The dealers who secure large portions of the offering typically mark-up the price and quickly “flip” the bonds. One method used to thwart flipping is requiring a local zip code be provided. Only those with such a zip code get an allocation from the offering.

RMR and its crew sought to obtain a portion of an offering. The goal was to immediately markup the bonds and flip them. Each named defendant would help sell the bonds. Ms. Murphy supplied a zip code that could be furnished to the underwriters, ensuring allocations. The Commission filed suit alleging violations of Exchange Act Section 15(a), since those selling the bonds were not registered brokers. The complaint also alleged violations of Exchange Act Section 10(b), based on the misrepresentations used to secure the bonds.

The Court, on a motion for summary judgment by the Commission, found in favor of the agency. Section 15(a) makes it unlawful for an unregistered broker or dealer to use the mails to effect any transaction in a security. In assessing if there is a violation of the Section the Ninth Circuit applies a conduct-based test tied to the totality of the circumstances.

Under this test, the Commission argued that Defendants effected transactions in securities in return for transaction based compensation. Specifically, Defendants admitted that Mr. Riccardi and RMR directed the other Defendants to link their brokerage accounts to that of the firm so that its capital could be used to buy new mini bonds and other securities. Defendants controlled their accounts, however, and conducted the trading. In return they were paid transaction-based compensation. While Defendants offered alternative explanations for their conduct, none were supported by the facts.

Finally, the Court found that Ms. Murphy violated Exchange Act Section 10(b). MSRB Rules G-11 and G-17 permit the issuer to set the rules for the offering. Here the zip code was a key requirement. Ms. Murphy admitted that she received allocations in the offering. She also admitted that without the fraudulent zip code she would not have obtained the allocations. And, it is undisputed that she did not live within the zip code. Based on this record the Court concluded that the facts were not in dispute and that Ms. Murphy and violated the antifraud provision. Remedies will be considered in the future.

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