As the first quarter closed, the Supreme Court handed down its decision on mutual fund fees. The SEC brought more insider trading cases and settled with one defendant in a Galleon-related case. In the latest chapter of the criminal option backdating cases, former Brocade Communications CEO Gregory Reyes was convicted again. DOJ and the SEC filed the court papers on their FCPA settlement with Daimler, sparking comments in the European press that U.S. enforcers are focusing on foreign multinationals.

Market crisis

The SEC is evaluating if derivatives are too risky for mutual funds, exchange traded funds and similar investment companies. The review is attempting to ascertain if additional protections are required. As the analysis proceeds, the staff is deferring consideration of exemptive requests under the Investment Company Act,which might permit ETFs to make significant investments in derivatives. This does not affect existing ETFs.

In the wake of the report on Lehman, discussed here, the staff is seeking information from large financial and insurance companies regarding their use of repurchase or repo transactions. Previously Senator Christopher Dodd called for a criminal investigation into the practices at Lehman. The House Oversight Committee is planning hearings.

Supreme Court

Jones v. Harris Associates, L.P., Case No. 08-586 (March 30, 2010). The Court rejected the Seventh Circuit’s disclosure approach to Section 36(b) in favor of the Second Circuit’s in Gartenberg v. Merrill Lynch, 694 F.2d 923 (2nd Cir. 1982), with perhaps a different emphasis as discussed here. The question in the case centered on the standard shareholders must meet to bring a complaint challenging an adviser’s fees under Investment Company Act Section 36(b). The Seventh Circuit affirmed the dismissal of the complaint, but rejected Gartenberg in favor of a market based disclosure approach, discussed here.

The Supreme Court noted that consensus has developed around Gartenberg. Under that decision, to violate Section 36(b), the adviser would have to charge a fee that is so disproportionately large that it has no reasonable relationship to the services rendered and therefore could not be the product of arm’s-length bargaining. Under Section 36 (b), the plain statutory language focuses on the concept of a fiduciary duty which is keyed to an arm’s length transaction. That concept fits into the statutory structure which focuses on the board being furnished with all the necessary information to evaluate the fees. This structure suggests “a measure of deference” to the board’s judgment which depends on the circumstances. The Court stressed that district courts should not second guess the board and become involved in fee decisions for which they are ill-suited. The concurring opinion by Justice Thomas noted that while Gartenberg can be read to focus on a fairness evaluation, that standard is not being adopted here.

SEC enforcement actions

Insider trading: SEC v. Berrettini, Civil Action No. 10-CV-01614 (N.D. Ill. Mar. 31, 2010) is an action against Ralph Pirtle, former Director of Real Estate for Philips Electronics North America, a subsidiary of Royal Philips, N.M. and his friend Morando Berrettini. According to the complaint, Mr. Pirtle illegally tipped his friend about the interest of Philips in acquiring Lifeline Systems, Inc., Invacare Inc. and Intermagnetics Corporation. In each instance, Mr. Berrettini traded, making a total profit of over $240,000. In a series of side dealings, Mr. Berrettini used cashiers checks totaling $226,000 to purchase goods and services for Mr. Pirtle. The complaint alleges violations of the Exchange Act antifraud provisions. The case is in litigation. See also Litig. Rel. 21472 (Apr. 1, 2010).

Investment fund fraud: SEC v. Bond, Civil Action No. 10-1358 (N.D. Cal. Filed Mar. 31, 2010) is an action against Stephen Bond for aiding an investment fund fraud scheme of Albert K. Hu from 2001 through 2008. The Commission has an action pending against Mr. Hu. According to the complaint Mr. Bond appeared at investor conferences to solicit funds for two hedge funds. He was introduced as the fund manager. In fact, he had no role in the operations of the funds, but was paid about $900,000 for his role. The complaint alleges violations of Section 10(b) of the Exchange Act and Section 206 of the Investment Advisers Act. The case is in litigation. See also Litig. Rel. 21471 (Apr. 1, 2010).

Insider trading: SEC v. Dorozhko, Civil Action No. 07 Civ. 9606 (S.D.N.Y.) is an action against Oleksandr Dorozhko, the so-called “computer hacker” case. The case was initially dismissed by the district court, but reversed by the Second Circuit as discussed here. On remand, the court granted summary judgment in favor of the Commission and against Mr. Dorozhko who is currently unrepresented in the case. See also Litig. Rel. 21465 (Mar. 29, 2010).

Insider trading: SEC v. Cutillo, Civil Action No. 09-CV-9208 (S.D.N.Y.) is one of the Commission’s Galleon-related insider trading cases as discussed here. Schottenfeld Group LLC, a defendant in the case, settled with the SEC. The complaint alleged that traders Zvi Goffer, David Plate and Gautham Shanker of the firm traded on inside information regarding three different takeover transactions. The Company settled with the Commission by consenting to the entry of a permanent injunction prohibiting future violations of the Exchange Act antifraud provisions. The firm also agreed to pay disgorgement of $742,415, representing its share of the illegal trading profits along with prejudgment interest and a civil penalty of $371,207.50. Shottenfeld Group is also cooperating with the investigation and has agreed to retain an independent consultant to review its controls and compliance mechanisms. See also Litig. Rel. 21470 (Mar. 31, 2010).

Insider trading: SEC v. Navarro, Civil Action No. 4:10-CV-189 (N.D. Okla. Filed March 31, 2010) is a settled insider trading action against Gary Navarro, the former crude oil purchasing manager of SemCrude, a subsidiary of privately held SemGroup LP. That company is the parent of Nasdaq listed Blueknight. In July 2008, SemGroup LP and its largest customer were experiencing liquidity problems. Mr. Navarro learned of the problem and sold his stake in Blueknight three days before the public announcement of the financial difficulties as discussed here. Mr. Navarro avoided a loss of $83,602 by selling his shares prior to the announcement. To resolve the case, defendant Navarro consented to the entry of a permanent injunction prohibiting future violations of Section 10(b) of the Exchange Act. He also agreed to the entry of an order requiring him to disgorge the loss he avoided along with prejudgment interest and to the payment of a civil penalty in the same amount.

Investment fund fraud: SEC v. Villalba, Civil Action No. 5:10-cv-00649 (N.D. Ohio. Filed Mar. 29, 2010) is an action against unregistered investment adviser Enrique Villalba. The complaint alleges that from 1996 through June 2009 the defendant raised over $39 million from clients by assuring them of the safety of their investment. During that period he had over $17 million in trading losses and misappropriated over $6 million. The complaint alleges violations of Exchange Act Section 10(b) and Section 206 of the Advisers Act. The CFTC brought a parallel action.

Criminal actions

Insider trading: U.S. v. Tajyar, case No. 2:10-cr-00310 (C.D. Cal.) names as defendants Ahmad Tajyar, the owner and president of Investor Relations International and Zachary Bryant, formerly of Lipper Heilshorn & Associates, an investor relations firm. Also named as defendants are Omar Tajyar, Ahmad Noory and Vispi Shroff. According to the papers, one conspiracy involved Mr. Bryant tipping Mr. Tajyar prior to announcements made by Lippert’s clients. Those clients included Connetics Corp., Medivation Inc. and Halozyme Therapeutics Inc. A second conspiracy is alleged to have involved trading on inside information about clients of Mr. Tajyar’s firm. The SEC previously filed a complaint against Mr. Tajyar.

Insider trading: In U.S. v. Moffat, (S.D.N.Y. Filed Mar. 29, 2010) Robert Moffat, Jr., former senior vice president at IBM, pleaded guilty to a two-count information charging conspiracy to commit securities fraud and securities fraud based on his role in the on-going Galleon cases as discussed here. The information alleges that from August through October 2008 defendant Moffat engaged in an insider trading scheme, tipping Danielle Chiesi, formerly with New Castle Partners hedge fund, regarding three stocks. First, he passed on financial information regarding IBM and Lenovo Group Ltd.. Second, in two conversations which were intercepted by a wire tap, he tipped Ms. Chiesi about a pending deal in which AMD would spin off its manufacturing business. The information was used to trade. The date for sentencing has not been set.

Option backdating: U.S. v. Reyes, Case No. 06-0056 (N.D. Cal.). Gregory L. Reyes, former Chief Executive Officer of Brocade Communications Systems, Inc., was convicted of securities fraud based on option backdating claims for a second time. The jury returned guilty verdicts on four counts of securities fraud, four counts of lying to accountants and one count of false books and records. A not guilty verdict was returned on a conspiracy count. The charges are based on claims that Mr. Reyes falsified option grants by creating fictitious documents to conceal the fact that the options were being backdated to obtain more favorable grant dates at Brocade as discussed here.


Daimler AG settled FCPA charges with the Department of Justice and the SEC with the filing of the court papers and entry of the guilty pleas. The actions are discussed here. In the criminal cases, Daimler AG entered into a deferred prosecution agreement, while its Russian and German subsidiaries pleaded guilty. The company engaged in what the court documents described as a years long pattern of bribery which was internally accounted for as “third-party accounts.” Millions of dollars in bribes were paid in 22 countries including China, Croatia, Egypt, Greece, Hungary, Indonesia, Iraq, Ivory Coast, Latvia, Nigeria, Russia, Serbia and Montenegro and others. In connection with the guilty plea, the Russian subsidiary, DaimlerChrysler Automotive Russia SAO, admitted to paying bribes to Russian federal and municipal government officials to secure contracts. Likewise, the German subsidiary, Export and Trade Finance GmbH, admitted making corrupt payment directly to Croatian government officials, as well as to third parties, including two U.S. based corporate entities to secure the sale of 210 fire trucks. In connection with the deferred prosecution agreement, the parent admitted making improper payments in the form of commissions, delegation travel and gifts to Chinese government officials. Under the terms of the agreement the company is required to install a compliance monitor for three years. The parent and two subsidiaries are also required to pay $93.6 million in criminal fines and penalties.

The SEC brought an action against the parent company, SEC v. Daimler, AG, Case No. 1:10-cv-00473 (D.D.C. Filed Apr. 1, 2010). The complaint alleges that from 1998 through 2008 the company violated the anti-bribery provisions of the FCPA in at least 51 transactions in Asia, Africa, Eastern Europe and the Middle East. The company also violated the books and records provisions in an additional 154 transactions when making improper payments totaling at least $56 million in 22 countries. A number of Daimler’s former executives were involved in these transactions which were facilitated by a decentralized corporate structure, lax internal controls, and the falsification of records. The action was settled with a consent to the entry of a permanent injunction prohibiting future violations of the anti-bribery and books and records provisions of the FCPA. The decree also requires that the company retain an independent consultant for three years. Daimler agreed to pay $91.4 million in disgorgement and $93.6 million in fines which were paid in the criminal action. The company cooperated with the investigation.


Scottrade was fined $200,000 for pattern day trading and margin violations. The pattern day trading rules require that such traders maintain at least $25,000 in their margin accounts. Scottrade, however, only sent a warning to traders who failed to maintain the minimum and permitted them to continue trading. The violations occurred in 11,708 accounts. FINRA also concluded that from February 2006 through January 2007 the company improperly extended credit to certain account customers by failing to obtain timely cash payments for purchases and failing to liquidate or cancel those trades as required.