The SEC entered into an agreement with the Capital Turkey Securities Regulator this week calling for mutual cooperation in a number of areas including enforcement. The Commission also continued implementing Dodd-Frank, issuing additional rules concerning large traders, asset backed securities and short form eligibility. The Court of Appeals for the District of Columbia vacated the SEC’s new proxy access rules, concluding they were not issued in accordance with the Administrative Procedure Act. This is the second time in the last two years the Court has struck down an SEC rule for not complying with the APA.

The Commission also settled an FCPA action involving liquor giant Diago plc. The case was based on hundreds of small payments made to facilitate the sale of its products as well as lobbying fees paid to a foreign official and political party member to secure a huge tax refund and improper travel and entertainment expenses. None of the payments were properly recorded.

Finally, FINRA issued an investor warning, cautioning the public about seeking higher returns in certain high risk products. The regulator also settled another action centered on sales practices used in connection with the marketing of auction rate securities.

The Commission

Testimony: John Ramsay, Deputy Director of the Division of Trading and Markets, testified before the House Subcommittee on Oversight and Investigations regarding the Oversight of the Credit Rating Agencies Post Dodd-Frank (here).

Structured Products: The SEC staff issued a report entitled: Summary of Sweep Examination of Structured Products Sold to Retail Investors (here). The report was prepared by the Office of Compliance Inspections and Examinations.

Agreement with Capital Turkey Securities Regulator: The SEC and the Capital Markets Board of Turkey or CMB entered into a new relationship to enhance cooperation. Specifically, it focuses on identifying regulatory issues that have a common interest, improving cooperation, the exchange of information on cross boarder enforcement matters and continuing to develop existing jointly sponsored training. The Terms of Reference are here.

Large traders: The SEC adopted a new “large trader reporting regime” to help it monitor the markets (here). Large traders will be required to register and follow certain record keeping requirements. Large traders are defined as those whose trades equal or exceed two million shares or $20 million in any day or 20 million shares or $200 million during any calendar month in exchange traded securities.

ABS: The SEC re-proposed new shelf eligibility requirements for asset backed securities, incorporating provisions from Dodd Frank into a previous proposal. The new proposals have a risk retention or skin in the game provision, a confirmation of reps and warranties and ongoing reporting requirements (here).

Short form eligibility: The SEC adopted a new short form criteria for the use of Forms S-3 and F-3 which deletes credit ratings as one of the predicates for using the forms (here). This is pursuant to Dodd Frank.

Securities litigation trends

The number federal securities class action suits filed in the first half of 2011 decreased compared to the second half of 2010 but the number of cases filed increased compared to the first half of 2010, according to a new report by Cornerstone Research (here). For the first half of 2011 there were 94 suits filed. That is below the 104 suits filed in the second half of 2010 but more than the 72 suits filed in the first half of 2010. If class action securities suits continue to be filed at the present pace, the report projects there will be a total of 190 cases brought in 2011. This is on par with the average number of filings from 1997 to 2010. A significant part of those cases are related to Chinese reverse mergers and M&A transactions.

SEC enforcement – filings and settlements

Stop order proceedings: In the Matter of the Registration Statement of China Century Dragon Media, Inc., Adm. Proc. No. 3-14421 (July 22, 2011); In the Matter of the Registration Statements of China Intelligent Lighting and Electronics, Inc., Adm. Proc. File No. 3-14418 (July 22, 2011). Each is a settled stop order proceeding where the auditors resigned and under the circumstances could no longer support their opinions. The Orders alleged as a result that the filed registration statements were materially false. The proceedings were settled with orders suspending the registration statements.

Anti-corruption – FCPA

United States

TheSEC settled FCPA charges with Diago plc, a leading producer and distributor of premium branded spirits, beer and wine including Johnnie Walker, Simiroff, Guinnes and others. Its ADRs are registered with the Commission and traded on the New York Stock Exchange. In the Mater of Diageo plc, Adm. Proc. File No. 3-14490 (July 27, 2011).

The case is based on transactions involving three subsidiaries of the company: Diageo India Pvt, Ltd or DI, Diageo Moet Hennessy Thailand or DT and Diageo Korea Co. Ltd or DK. DI and DT were acquired in 1997 as part of a merger. At the time the company understood they had weak compliance policies and procedures. The Order alleges that from 2003 through 2009 DT made about $1.7 million in illicit payments to hundreds of government officials who were responsible for purchasing or authorizing the sale of beverages. As a result the company made $11 million in profit. From 2004 to mid 2008 DT paid about $12,000 per month or $600,000 to retain the consulting services of a Thai government and political party official for extensive lobbying on behalf of Diageo. In Korea DK paid about $86,000 to a customs official to reward his role in the government’s decision to grant Diageo significant tax rebates. In addition improper travel expenses were paid. None of these payments were properly booked.

The proceeding was resolved with the company consenting to the entry of a cease and desist order based on Exchange Act Sections 13(b)(2)(A) and 13(b)(2)(B). Diageo also agreed to pay disgorgement of $11,306,081 along with prejudgment interest and a $3 million civil penalty. The Commission acknowledged the cooperation of the company which included certain remedial efforts, employee termination and significant enhancements to its FCPA compliance program.


The Niko Resources Ltd. pleaded guilty to one count of bribery under the Canadian Corruption of Foreign Public Officials Act The underlying investigation began in January 2009. It centered on allegations that the company made improper payments for the provision of a vehicle for the personal use of the then-Bangladeshi Energy Minister. It has a value of $190,000. In addition, payments were made covering travel costs for the same minister to attend an Energy Expo in Calgary as well as for a personal trip to New York, all valued at $5,000. The company was ordered to pay a fine of $9.5 million and put under court supervision for three years to ensure compliance audits are completed. Niko is engaged in the business of natural gas and oil exploration and development in varies regions including India, Bangladesh, the Kurdistan Region of Iraq and Pakistan.

Criminal cases

Investment fraud and manipulation: U.S. v. Mandell (S.D.N.Y.). Ross Mandell, former CEO of Sky capital, LLC, a brokerage firm, and Adam Harrington, a senor broker at the firm, were found guilty on conspiracy and securities charges by a jury in Manhattan. According to the superseding indictment, from 1998 through 2006 the defendants, and others, raised about $140 million from investors who were sold private placement shares in The Thornwater Company, L.P. and Sky Capital, LLC. based on a series of misrepresentations and through the use of high pressure tactics. As part of the scheme the publically traded shares of the companies were manipulated through brokers at the firm who were paid excessive commissions. Much of the investor money was used to pay those commissions, repay some investors and to enrich the defendants. The date for sentencing has not been set.

Court of appeals

Proxy access rule: Business Roundtable v. SEC, No. 10-1305 (D.C. Cir. Decided July 22, 2011). The Commission’s new “proxy access” Rule was vacated by the Circuit Court of the District of Columbia for failing to comply with the Administrative Procedure Act or APA. The Court sustained challenges to the Rule by the Business Roundtable and the Chamber of Commerce. Rule 14a-11 required that an issuer include in its proxy materials the names of persons nominated by shareholders who have continuously held at least 3% of the voting securities for three years.

In reviewing a rule under the APA the Court has the obligation to determine if the agency examined the relevant data and articulated a satisfactory explanation for its action, according to the Court. Here the SEC “inconsistently and opportunistically framed the costs and benefits of the rule; failed adequately to quantify the certain costs or to explain why those costs could not be quantified; neglected to support its predictive judgments; contradicted itself; and failed to respond to substantial problems raised by commenters. For these and other reasons, its decision to apply the rule to investment companies was also arbitrary” the Court held. Id. At 7. Accordingly, the Court vacated the Rule.

Option backdating: SEC v. Shanahan Jr., No. 10-1820 (8th Cir. Filed July 19, 2011). The Circuit Court agreed with the district court’s conclusions that the Commission failed to establish a violation of the company’s plan or that Mr. Shanahan Jr. engaged in securities fraud. The SEC’s complaint alleged that from 1997 through 2002 Michael F. Shanahan, the former CEO of the company, and his son, Michael Shanahan Jr., a member of the board and its compensation committee, participated in a scheme to backdate about $20 million in options for senior executives and employees. Approximately $16 million of those grants were issued to senior executives. Overall, the father obtained about $8.9 million from backdated grants while the son made approximately $379,000. Both defendants were alleged to have caused the annual reports as well as other filings of the company to be falsified as a result of the scheme. Following eight days of trial on the SEC’s claims Michael F. Shanahan, Jr. won dismissal of the charges against him.

The Circuit Court affirmed. The SEC’s case centered on claims that the company engaged in the unlawful and undisclosed backdating of its options, contrary to its disclosed plan. Since the options here were priced on the date listed in the papers they literally complied with the plan which did not preclude backdating. Furthermore, even if Mr. Shanahan Jr. perceived an apparent contradiction between the option dating and pricing practices of the company and its disclosed plan from his work on the compensation committee, the SEC did not establish that he recklessly failed to see an obvious danger that investors would be misled. In fact everyone at the company, including the auditors, thought the company was in compliance. Likewise, the Commission failed to present any evidence to support its negligence based claims under Securities Act Sections 17(a)(2) & (2). Indeed, the SEC did not present any evidence on the applicable standards.


Investor alert: FINRA issued an investor alert titled “The Grass Isn’t Always Greener – Chasing Return in a Challenging Investment Environment.” The Alert cautions investors about pursuing what may appear to be higher returns in investments such as high yield bonds, floating rate loan funds, structured retail products and leveraged products.

ARS: SunTrust Investment Services, Inc and SunTrust Robinson Humphrey, Inc. settled charges relating to the sale of auction rate securities. Specifically, FINRA charged that in 2007 as cracks began to appear in the ARS market the parent of SunTrust RH cautioned about reducing exposure to the market. SunTrust R H however failed to warn representatives about the increased risks going forward. The SunTrust RH also shared inside information about the market when its affiliated bank was about to purchase ARS. Both SunTrust RH and SunTrust IS used false and misleading marketing materials. To resolve the matter the two entities previously agreed to repurchase certain ARS from their customers and to participate in a special arbitration process. SunTrust R H agreed to pay a fine of $4.6 million while SunTrust IS agreed to pay a fine of $400,000.

Two upcoming programs on the FCPA:
Program: Is FCPA Enforcement To Aggressive? August 5, 2011, ABA Annual Meeting Toronto.
Is FCPA Enforcement Overly Aggressive? The program links are here and here.

Program: Current Trends in FCPA Enforcement, August 17, 2011, Live in Menlo Park, CA, and webcast nationally. The program link is here.