The SEC’s New Financial Fraud Task Force: Part VI, The Market Crisis and a Change of Direction

This is the sixth in a series of articles examining the creation of the Financial Reporting and Audit Task Force along with a Center for Risk and Quantitative Analysis. Today’s article examines select financial fraud cases brought in the wake of the market crisis which represent a change in focus.

From 2007 through 2009 the U.S. suffered through the worst economic crisis since the great depression of the 1930s. The SEC launched a series of investigations and subsequently filed a number of actions. Many of those actions were financial fraud cases. In contrast to traditional financial fraud actions which typically centered on increasing revenue to meet street expectation, these cases frequently involved concealing the impact of the evolving economic crisis on the company. Examples of these actions include:

· SEC v. Mozilo, Civil Action No. CV 09-03994 (C.D. Cal. Filed June 4, 2009) is an action against the former CEO of Countrywide Financial and two of its other officers. The firm was the largest writer of subprime mortgages. The SEC’s complaint alleged that as the subprime real estate market collapsed Countrywide continued to tell investors that it was writing quality loans while failing to state that the lending standards had been altered and that in fact the quality and value of the loan portfolio was deteriorating. The complaint alleged violations of Securities Act Section 17(a) and Exchange Act Sections 10(b) and 13(a). See Lit. Rel. No. 21068A (June 4, 2009).

· SEC v. Strauss, Civil Action No. 09 CIV 4150 (S.D.N.Y. Filed April 29, 2009) is an action against the former CEO and president of American Home Mortgage Investment Corp and two other officers. For years this company had successfully written mortgages. By late 2006 however, and in early 2007, additions were required to the reserves as the market crisis developed. As the losses mounted the defendants concealed them by making misleading disclosures, not revealing that much of its book of loans had been sold and misleading investors about the cash position of the company. The complaint alleged violations of the antifraud, reporting and internal controls provisions of the securities laws.

• Other significant cases include: SEC v. Morrice, Civil Action No. CV 09-01426 (C.D. Cal. Filed Dec. 7, 2009) (fraud action against senior officers of subprime lending giant New Century centered on concealing true financial condition of firm); SEC v. Perry, Civil Action No. CV 11-01309 (C.D. Cal. Filed Feb. 11, 2011) (similar action against the officers of IndyMac Bancorp); SEC v. Wu, Case No. CV -11-4988 (N.D. Cal. Filed Oct. 11, 2011) (action against officers of United Commercial Bank and UCBH Holdings, Inc. alleging that defendants failed to write down several large non-performing loans as market crisis moved forward); SEC v. Nocella, Case No. 4:12-cv-1051 (S.D. TX. Filed April 6, 2012) (action against two officers of Franklin Bank Corp. centered on allegations that as the market crisis unfolded and the loan portfolio deteriorated the defendants concealed the true value of the assets); SEC v. Woodard, Civil Action No. 2:13cv16 (E.D. Va. Filed Jan. 9, 2013) (action against officers of Common Wealth Bank Shares based on similar theory); see also SEC v. General Motors Corporation, Civil Action No. 1:09-cv-0019 (D.D.C. Filed January 22, 2009) (action centered on improper disclosures regarding estimated payments for pension plan and errors in accounting for derivatives).

Next: Following its reorganization the SEC’s Division of Enforcement adopts big data techniques to facilitate its investigative efforts