The SEC Charges City of Harrisburg with Fraud

For the first time the SEC charged a municipality for making false and misleading statements outside of its securities disclosure documents. The capital of Pennsylvania, Harrisburg, was named as a Respondent in a settled administrative proceeding based on materially false and misleading statements made about its financial condition during a period when other information was not available and the city was nearly bankrupt. In the Matter of the City of Harrisburg, Pennsylvania, Adm. Proc. File No. 3-15316 (May 6, 2013). The Commission also issued a Report on the potential antifraud liability of officials for their public statements about the financial condition of their city. Release No. 69516, Report under Section 21(a) of the Exchange Act, Report of Investigation in the Matter of the City of Harrisburg, Pennsylvania Concerning the Potential Liability of Public Officials with Regard to Disclosure Obligations in the Secondary Market.

The Order alleges that by December 2007 Harrisburg had outstanding obligations from both its general obligation bonds and the primary guarantees to its various component units totaling about $498 million. This represented eight times the city’s annual general fund revenues of $61 million for that year. A substantial portion of this debt had been issued by the city Authority, an entity with the power to issue debt. That debt, related to a Resource Recovery Facility or RRF, was guaranteed by the city. Although the specific disclosure obligations differed for various types of debt, Harrisburg executed a series of Continuing Disclosure Certificates which imposed certain financial disclosure obligations. The information was to be placed in a specified depository for investors.

During 2008 and 2009 the financial condition of Authority deteriorated. Various reports detailing this fact were furnished to the City Council and city administrators. By late 2008 the Authority did not have sufficient revenue to meet its debt service obligations for 2009 and beyond without a significant rate increase for a waste disposal unit at its Resource Recovery Facility. At the same time a report prepared by the Authority projected that debt service for 2009 would increase significantly. A rate increase for its RRF facility was sought. As a result of a dispute with the county, only a minimal increase went into effect. The Authority would not be able to service its debt. The city, as guarantor, was responsible.

Harrisburg did not complete the required financial reports for 2007 until December 2008. Those reports were not submitted to the repository until January 2009. Likewise, the required financial reports for 2008 were not completed until late December 2009. They were never submitted to the repository. The 2008 report was available on the website of the city. Both reports contained material misstatements and omissions.

During this two year period when accurate information regarding the finances of the city was not available, bond investors could only rely on public statements by the city, according to the Order. The little information that was available was materially incomplete. Thus, although the 2009 budget and a transmittal letter were available on the city website, they failed to include funds for the guaranteed obligations of the Authority despite the fact that it was unlikely to have the ability to service the debt. The budget also misstated the city credit rating, claiming that Moody’s had assigned a rating of Aaa rather than the correct Baa1 rating. Similarly, in an April 2009 address the Mayor made misleading statements by failing to detail the impact of the repayment obligations from the bonds.

During the period the city did not have policies and procedures to ensure that the financial information released to the public was accurate in all material respects. It did not have any policies and procedures to ensure that compliance with the Continuing Disclosure Certificates. The Order alleged willful violations of Exchange Act Section 10(b).

To resolve the matter the city agreed to a series of undertakings and consented to the entry of a cease and desist order based on Exchange Act Section 10(b). The Commission considered the cooperation of the city in resolving the proceeding.

In the accompanying Section 21(a) Report the Commission emphasized the applicability of the antifraud provisions to the statements of public officials: “Public officials should be mindful that their public statements, whether written or oral, may affect the total mix of information available to investors, and should understand that these public statements, if they are materially misleading or omit material information, can lead to potential liability under the antifraud provisions of the federal securities laws.”

In the context of the proceeding involving the City of Harrisburg, the Commission noted, the statements made by public officials could have altered the total mix of information available to bond investors. As a result public officials who make such statements “should consider taking steps to reduce the risk of misleading investors. At a minimum, they should consider adopting policies and procedures that are reasonably designed to result in accurate, timely, and complete public disclosures . . . “

ABA Seminar: Fifth Annual FCPA Update: Protecting Your Business in the Future: Lessons from the New DOJ-SEC FCPA Guide, June 19, 2013 from 1:00 -2:30 p.m. EST. The discussion will focus on building effective compliance systems and conducting M&A due diligence. Co-moderators: Thomas Gorman and Frank Razzano. Panel: John Buretta, Principal Deputy to the Assistant AG, DOJ; Charles Cain, Assistant Director, FCPA Unit, SEC Division of Enforcement; Catherine Razzano, Assistant General Counsel, General Dynamics Corporation; Steve Siegal, Senior Counsel, Northrop Grumman Corporation; Ryan Ong, President, U.S. China Business Counsel. Live in Washington, D.C at 600 14th St. N.W., Penthouse (no charge for ASECA members attending live in Washington who pre-register by sending an e-mail to Webcast Nationally by the ABA. For further information here.

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