The Supreme Court drew what it called a clear line between primary and secondary liability in private damage actions under Exchange Act Section 10(b) in a 5-4 decision. This is the last of the securities cases on the Court’s docket this term.

The Commission sunk into another mire, beginning a dispute with a U.S. Senator. The Senator had requested information about the handling of certain suspicious trading referrals from FINRA. The Commission declined to furnish the information, citing the non-public nature of its investigations.

In court the SEC was handed split decisions in a ruling in the Goldman Sachs case and in a jury trial where one defendant was found liable and another not in an insider trading case. The Commission also prevailed on summary judgment in an investment fund fraud case. The Commission also filed another insider trading action while settling another, initiated a stop order proceeding and brought more investment fund fraud cases.

The second Galleon case to go to trial ended with three defendants being convicted. At the same time the first of the expert network cases is on trial.

Finally, congress heard testimony on amending the FCPA. At the hearing the testimony generally favored amending the Act to clarify certain provisions and add a compliance defense.

Supreme Court

In Janus Capital Group, Inc. v. First Derivative Traders, No. 09-525 (S.Ct. June 13, 2011) the Supreme Court drew the line between primary and secondary liability, resolving a debate which began with Central Bank v. First Interstate, 511 U.S. 164. In a 5-4 decision the Court focused on what it means to “make” a statement. It concluded that “For purposes of Rule 10b-5, the maker of a statement is the person or entity with ultimate authority over the statement, including its content and whether and how to communicate it.”

The action was brought against Janus Capital Group, Inc. (“JCG”) and Janus Capital Management LLC. (“JCM”). JCG is a publically traded. It sponsors the family of mutual funds known as the Janus Funds. JCM is a wholly owned subsidiary of JCG. It is the investment adviser and administrator to Janus Investment Fund. Janus Investment Fund issued prospectuses as required by the securities laws. Those documents described the investment strategy and operations of its mutual funds to investors. They were filed with the SEC.

The complaint claims that Petitioner defendants JCMG, the sponsor of a family of funds, and JCM, the investment adviser to the Janus Investment Fund made false statements in the prospectuses regarding the market timing policies of the Janus Funds. Following a suit by the New York AG claiming the market timing disclosures were false the share price of publicly traded JCG dropped significantly and this suit followed. The district court’s dismissal was reversed by the Fourth Circuit.

The Supreme Court concluded that the person who prepares or publishes a statement is not the maker. It is the person who controls it. Here that is neither defendant. Rather, the statements are in prospectuses filed by the Janus Investment Fund. Since that entity has an obligation to file the documents it has control and is the maker of the statements.

The Commission

Proposed rules: The SEC proposed amendments to strengthen audits and the reporting of Broker Dealers to Protect Customer Assets. It issued a proposal to Amend Exchange Act Rule 17a-5 (here).

Guidance re swaps: The SEC published guidance as to which of the Title VII requirements of Dodd-Fran will apply to security-based swap transactions as of July 16, 2011 and granted temporary relief from some requirements (here).

Insider trading: Last month the Senator Grassley asked the SEC to furnish information regarding how it handled multiple referrals over the last decade from FINRA about suspicious trading by SAC Capital (here). The request apparently is based on the fact that several former SAC traders have been implicated in the on-going expert network insider trading inquiry and pleaded guilty. In a letter sent to the Senator dated June 9, 2011 the Commission refused to furnish the information, explaining that it does not discuss on-going law enforcement investigations. The letter then furnishes information about the SEC’s insider trading efforts. The Senator issued a press release stating that the letter is not responsive.

Summary of Taylor Bean cases: The Commission filed Litigation Release No. 22002 (June 16, 2011) which summarizes the enforcement actions filed against individuals related to the collapse of Taylor Bean (here).

SEC enforcement – court rulings & trials

Extraterrorital application:: SEC v. Goldman Sachs & Co., Case No. 10Civ. 3229 (S.D.N.Y.) is the Commission’s action against the investment bank and its employee Fabrice Tourre based on the sale of interests in ABACUS, an entity tied to the sub-prime real estate market. The bank settled (here). On Friday the Court ruled on Mr. Tourre’s Motion to Dismiss. It was granted in part and denied in part. The motion was based primarily on Morrison v. National Australia Bank Ltd., 130 S.Ct. 2869 (2010) which held that Exchange Act Section 10(b) only provides a cause of action for securities transactions in the U.S. or on a U.S. exchange. The court dismissed those portions of the complaint such as a sale to a German bank which did not occur in the U.S. but denied the motion as to the portions of the transaction which occurred in this country which generally involved the portfolio manager or its affiliates.

Retroactivity: SEC v. Daifotis, No. C 11-00137 (N.D. CA.) is an action against two executives of subsidiaries of Charles Schwab entities responsible for its YieldPlus Fund. The defendants’ motion to dismiss claimed in part that Dodd-Frank Sections 929N and 929O of Dodd-Frank, which impose aiding and abetting liability under Section 206 of the Advisers Act and set the knowledge standard of recklessness, could not be applied retroactively to lower the standard in the circuit. The SEC informed the court it would not seek retroactive application to lower the standard. The Court concluded the issue is moot.

Investment fund fraud: SEC v. Smart, Case No. 2:09-cv-00224 (D. Utah Ruling June 14, 2011) is an action against Brian Smart and his controlled entity Smart Assets, LLC. The complaint alleged that Mr. Smart through the sale of notes and other securities raised over $1.6 million through fraudulent representations. Specifically, he told investors that their money would be conservatively placed in liquid investments. In fact he misappropriated much of it. The court granted the SEC’s motion for summary judgment, concluding that Mr. Smart had systematically defrauded investors out of over $2 million. The final judgment against each defendant enjoins them from future violations of Securities Act Section 17(a) and Exchange Act Section 10(b). It also orders the defendants to pay $2,059,077 in disgorgement, prejudgment interest and a civil penalty equal to the amount of the disgorgement.

Insider trading: SEC v. De la Maza, Case No. 09-21977 (S.D. Fla.) is an insider trading action against Alberto Perez and Dr. Sebastian De La Maza. Following a trial the jury returned a verdict against the SEC and in favor of Dr. Sebastian De La Maz and in favor of the SEC and against Alberto Perez. The case centered on the acquisition of Neff Corporation, an equipment rental company, by Odyssey Investment Partners, LlC, a private equity fund. The transaction was announced on April 7, 2005. In February 2005 Neff and Odyssey executed a letter of intent. Due diligence began in March 2005. When the deal was announced the share price increased 51%. According to the SEC Mr. Perez is a business associate and close friend of Neff’s CEO. While working in an office at Neff’s headquarters two doors from the acquisition due diligence teams, he learned about the deal according to the complaint. He subsequently purchased $282,000 of Neff stock. Dr. Sebastian De la Maz, the father-in-law of Neff’s CEO, learned about the deal from his daughter who is married to the CEO according to the SEC. The Doctor denied this claim. The complaint alleged violations of Exchange Act Section 10(b). Previously another defendant, Thomas Borell had prevailed on a summary judgment motion. At that time the motion of Dr. De la Maz was denied. The motions are discussed in detail here.

SEC enforcement – case filings and settlements

Undisclosed payments: In the Matter of Pegasus Investment Management, LLC, Adm. Proc. File No. 3-14425 (June 15, 2011) is an action against PIM, an investment adviser and the general partner of two private funds, Peter Bortel, PIM’s vice president, and Wayne Saksa, PIMs President and Chief Compliance Officer. According to the Order PIM received undisclosed cash payments totaling about $90,000 from a proprietary trading firm for permitting it to combine all of PIM’s futures trades with its own to reduce commissions. In return for this the firm secretly paid the $90,000 back which was retained by PIM and Bortel and not disclosed or furnished to the funds as their asset. This breached Advisers Act Section 206(2). Mr. Saksa failed to reasonably supervice Mr. Bortel with the meaning of Section 203(e)(6) according to the Order. The action was resolved with all three Respondents consenting to the entry of a censure. In addition, PIM and Mr. Bortel were ordered to cease and desist from causing any future violations of Section 206(2). PIM agreed to pay disgorgement in the amount of $90,000 along with prejudgment interest. Mr. Bortel was ordered to pay a fine of $50,000 while Mr. Saksa will pay $25,000.

Offering fraud: SEC v. Germany, Civ. Action No 3:11-CV-1252 (N.D. TX. Filed June 13, 2011) is an action against Norman Germany and two entities he controls. According to the complaint, the defendants conducted a fraudulent unregistered offering of oil and gas related securities. From 2008 through May 2010 over $600,000 was raised from investors through the sale of interests in two Mississippi oil and gas properties. Investors were falsely told that the wells were producing and that the funds would be used for oil and gas related expenditures. Instead the money was diverted to the personal use of defendant Germany. The complaint alleges violations of Securities Act Section 5 and Exchange Act Section 10(b). This action is pending.

Insider trading: SEC v. Powell, Case No 6:11-cr-161 (W.D. Tex. Filed June 10, 2011) is an action against Phillip E. Powell, former chairman of the board of first Cash Financial Services, Inc. In November 2007 the company announced a share repurchase program for up to 1 million shares. The announcement did not indicate when the program would begin. Later Mr. Powell learned when the program would start. The day before it commenced he purchased 100,000 shares of the company. The complaint claims the company overpaid for repurchases by $36,000 because of Mr. Powell’s purchase. He also made profits from the purchase of $124,000. Mr. Powell also refused to file a Form 4 when told by his broker. The complaint alleges violations of Exchange Act Sections 10(b) and 16(a). The case is pending.

Insider trading: SEC v. Hardin, Case No 10-CV-8600 (S.D.N.Y.) is another Galleon related case. This is one of two actions in which former Lanexa Management Managing director Thomas Hardin was named. Mr. Hardin settled both. The second is SEC v. Lanexa Management LLC, Civil Action no. 10-CV-8598 (S.D.N.Y.). The first is based on three alleged illegal tips Mr. Hardin received from Roomy Khan regarding the takeover of Hilton by The Blackstone Group, the second quarter 2007 earnings of Google and the acquisition of Kronos Inc. by Hellman & Friedman. In each instance Mr. Hardin traded on the information and passed it to others. This action was settled by consenting to the entry of a permanent injunction prohibiting future violations of Securities Act Section 17(a) and Exchange Act Section 10(b). He was also ordered to pay disgorgement of $33,321.95 plus prejudgment interest. The court will later determine issues regarding a civil penalty. In a related administrative proceeding Mr. Hardin agreed to the entry of an order barring him from the securities business. In the Matter of Thomas C. Hardin, Adm. Proc. File No. 3-14424 (June 14, 2011).

In the Lenexa Management case Mr. Hardin is alleged to have obtained inside information regarding the acquisition of 3Com through a chain of tips which traced back to Arthur Cutillo and Brian Santartas of Ropes and Gray LLP. To resolve this action Mr. Harden consented to a similar injunction. He was also ordered to pay disgorgement of $19,310 along with prejudgment interest. The court will later determine the penalty on motion by the SEC. Previously, Mr. Hardin pleaded guilty to securities fraud and conspiracy to commit securities fraud in the related criminal case. U.S. v. Hardin, 10-CR-399 (S.D.N.Y.). He has not been sentenced in that case.

Investment fund fraud: SEC v. U.S. Technologies, Inc., Case No. 02-2495 (D.D.C.) is an action against the company and Gregory Earles, the former chairman and CEO of that entity. The complaint alleged that from June 1998 through August 2002 Mr. Earls raised about $20 million from investors who were told that they would acquire preferred stock and warrants in U.S. Technologies through USV Partners, an entity supposedly created to effectuate such transactions. In fact Mr. Earles misappropriated about $13.8 million. Mr. Earles resolved the case by consenting to the entry of a permanent injunction prohibiting future violations of Securities Act Section 17(a) and Exchange Act sections 10(b) and 13(b)(5). The order also bars him from serving as an officer or director of a public company for 20 years. In the parallel criminal action Mr. Earls was convicted of 22 counts of securities fraud, mail fraud and wire fraud. He was ordered to pay restitution of $21,971,628 and to serve 125 months in prison followed by three years of supervised release. The company previously settled with the Commission. U.S. v. Earls, 1:03-CR-00364 (S.D.N.Y.).

Stop order proceeding: In the Matter of the Registration Statements of China Intelligent Lighting and Electronics, Inc., Adm. Proc. File No. 3-14418 (June 10, 2011) is a stop order proceeding. China Intelligent Lighting has two registration statements on file. The Division of Enforcement has alleged that each contains untrue statements of material fact. The independent auditor has withdrawn its audit report which is contained in one registration statement. The other fails to note this fact and contains other false statements. A hearing has been scheduled to begin on June 24, 2011.

Criminal cases

Insider trading; U.S. v. Goffer, 10-cr-0056 (S.D.N.Y.). The second Galleon related jury trial ended with the conviction of three more defendants. On Monday a jury in Manhattan returned guilty verdicts against Zvi Goffer, formerly of Schottenfeld Group LLC, Emanuel Goffer, formerly of Spectrum Trading LLC and Michael Kimelman. All three men at one time were employed at Incremental Capital. Zvi Goffer was convicted of two counts of conspiracy to commit securities fraud and twelve counts of securities fraud. Emanuel Goffer and Michael Kimelman were each convicted of one count of conspiracy to commit securities fraud and two counts of securities fraud. Each will be sentenced later this fall. According to the superseding indictment, he was part of an insider trading ring which included: Jason Goldfarb, an attorney in New York; Arthur Cutillo and Brien Santarlas, both attorneys at the law firm of Ropes and Gray LLP in New York; Craig Drimal, who worked in the office of, but not for, Galleon Group; and David Plate, a proprietary trader at The Schottenfeld Group. Zvi Goffer and others paid sources for inside information. Those sources included Messrs. Cutillo and Santarlas. The two attorneys furnished the group with information misappropriated from the law firm about pending corporate deals.


The Board adopted an Interim Inspection Program for Broker-Dealer audits and Broker Dealer Funding Rules (here).


Congress is hearing testimony on reforming the FCPA. This week hearings were held before the House Committee on the Judiciary, Subcommittee on Crime, Terrorism and Homeland Security. The Committee heard testimony from the Department of Justice, the U.S. Chamber Institute for Legal Reform, The National Association of Criminal Defense Lawyers and former Attorney General George Terwilliger.

Greg Anders, Acting Deputy Assistant Attorney General, Criminal Division, testified on behalf of the Department of Justice. In his remarks, Mr. Anders reviewed the impact of corruption and current enforcement efforts. He also discussed the charging process and the impact of cooperation. He concluded his remarks by discussing DOJ’s opinion process.

Former Attorney General and District Court Judge Michael Mukasey testified on behalf of the U.S. Chamber. Consistent with earlier positions taken by the Chamber, Mr. Mukasey recommended that six amendments be made to the FCPA: 1) A compliance defense; 2) Clarification of the definition of foreign official; 3) Procedures to improved the advisory opinion process at DOJ; 4)The criminal liability of a company for prior actions of an acquired entity should be limited; 5) A “willfulness” requirement for criminal corporate liability should be added; and 6) The liability of a parent company for unknown acts of a subsidiary should be limited.

Shana-Tara Regon, the Director of White Collar Crime Policy testified on behalf of the National Association of Criminal Defense Lawyers. She discussed the fact that “FCPA is emblematic of the serious problem of over-criminalization.” Mr. Terwilliger also emphasized the vagueness of portions of the FCPA in recommending four key reforms: 1) No criminal liability for an acquiring company. A post closing period of repose should be established for acquisitions while the necessary FCPA review is completed. If violations are discovered they would be reported to the government and remediated. The acquiring company would be given immunity. 2) A safe harbor for self-reporting. Under this approach a self-reporting company would not be criminally prosecuted although it would be subject to fines and penalties using an approach which would afford the company more certainty. 3) Foreign official. The definition of foreign official should be clarified. 4) Facilitation payments. Finally, the standards regarding facilitation payments should be clarified.


The FSA obtained a court order directing Barnett Alexander, a self employed trader, from committing market abuse. He was also ordered to pay a fine of over $ 1 million and pay restitution of about $450,000. He is also banned from performing any function in relation to a regulated activity. The order is based on allegations that Mr.Alexander manipulated the prices of shares on the London Stock Exchange. The FSA took into account the fact that Mr. Alexander is self employed, not working in the financial services industry and that he has fully admitted his conduct.

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