This Week In Securities Litigation (Week of June 27, 2022)

While the Commission continued to focus on conflicts in filing new actions, this time they did not center on an investment adviser. Rather, it was the Dodd-Frank provisions governing NRSROs. There Congress warned about the conflicts inherent in the process of having one segment of a company prepare what are supposed to be objective ratings while another part of the same firm is seeking business from the same client. The Commission was directed to, and did, write rules governing the situations.

The issue is built on the same inherent conflict present when securities analysts offer evaluations of securities while other parts of the same company are seeking business from firm’s whose securities are being rated. The solution for each is the same – separation as illustrated by the case discussed below

Be careful, be safe this week

SEC Enforcement – Filed and settled actions

Last week the Commission filed 1 civil injunctive actions and no administrative actions, exclusive of 12j, tag-a-long and other similar proceedings.

Unregistered broker: SEC v. StraightPath Venture Partners LLC, Civil Action No. 1:22-cv-03897 (S.D.N.Y.) is a previously filed action in which the Court entered a preliminary injunction, a partial asset freeze and appointed a receiver. The complaint alleged that the firm and four individual defendants engaged in an offering fraud in which Defendants sold “pre-IPO” shares and pocketed the funds. Defendants were not registered with the Commission. The Court also directed Defendants to pay $15 million into the receivership. The injunction was based on Exchange Act Sections 10(b) and 15(a) and Advisers Act Sections 206(1), 206(2), 206(3) and 206(4). The asset freeze involved certain real estate assets. See Lit. Rel. No. 25429 (June 24, 2022).

Conflicts: In the Matter of Egan-Jones Ratings Company, Adm. Proc. File No,. 3-20902 (June 21, 2022). Named as Respondents are Egan-Jones Ratings and Sean Egan. The firm is a well-known ratings agency. It registered with the Commission and became an NRSRO for financial institutions, insurance companies, corporate issuers, government and municipal securities and those of foreign governments. Sean Egan, the founder and CEO of the privately held company, is also a Respondent. In 2013 Egan-Jones was found to have violated Exchange Act Sections 15E(a)(1) and related provisions by making a material misstatement in its form NRSRO and causing violations of Sections 15E and 17(a). The action was resolved with the entry of a cease-and-desist order as to Egan-Jones and the revocation of its registration regarding ratings for asset-backed securities and government securities with a right to apply for reentry after eighteen months. A cease-and-desist order based on Rule 17g-5 was also entered as to Mr. Egan. The action here centered on alleged violations of Rule 17g-5(c)(8)(i) regarding the issuance of a rating when there is a conflict of interest and Rule 17(g)-5(c)(1) which is concerned with maintaining a rating for a client that is responsible for 10% or more of the firm’s revenue under certain circumstances. First, Egan-Jones issued a rating in 2019 at a time when Respondent Egan had participated in determining the credit rating for the client. The firm founder engaged in sales and marketing activities with respect to the client. This breached the divide between sales and marketing and the issuance of a rating mandated by the Dodd-Frank Act. Second, Egan-Jones violated the 10% rule. Specifically, in 2017 the firm solicited business from a client that it was aware might contribute over 10% of its revenue for the year. This is contrary to Rule 17g-5(c)(1) of the Exchange Act. While $538,000 was recorded in the year-end financial statements in a footnote and labeled as “excess revenue refundable” – the exact amount by which the 10% level was exceeded — the loss contingency was not accrued in accord with GAAP. There was thus no reason for not tabulating the sum for purposes of the 10% rule. Respondent firm also failed to establish, maintain and enforce policies and procedures reasonably designed to manage conflicts of interest as required by Rule 15E(h)(1). The firm agreed to implement certain undertakings, including conducting a training program regarding the matters at issue here, and retaining an Independent Consultant in connection with resolving the matter. The firm will also develop and implement policies and procedures prohibiting Mr. Egan from participating in the development or approval of any ratings. The Order alleges violations of Sections 15E(h)(1) and 15E(f)(2) and Rules 17g-(5)(c)(8)(i), 17(g)(5(c)(8)(ii) and 17(g)-5(c)(1). In resolving this action, the firm consented to the entry of a cease-and-desist order based on each of the three Rules cited above and to a censure. It will also pay disgorgement of $129,000 along with prejudgment interest of $17,592. In addition, the firm will pay a penalty of $1.7 million. Respondent Egan also consented to the entry of a cease-and-desist order based on Rules 17g-(5)(c)(8)(i) and 17(g)(5(c)(8)(ii). He will pay a penalty of $300,000.

Insider trading: SEC v. Sheinfeld, Civil Action No. 1:20-cv-01692 (M.D. Pa.) is a previously filed action which named as defendant, Steven J. Sheinfeld, formerly employed by Rite Aid Corp. That and Walgreens Boots Alliance, Inc. at one point had discussions centered on a possible merger. When it was determined that it would not proceed, but prior to the time that information became public, Mr. Sheinfeld, who learned of the confidential determination, liquidated nearly $1 million if Rite Aid securities. Mr. Sheinfeld settled charged that he violated Exchange Act Section 10(b) by consenting to the entry of a final judgement precluding future violations of the Section cited. Last week the Court entered judgment by consent. The order also directed Mr. Sheinfeld to pay a penalty of $305,129. See Lit. Rel. No. 25428 (June 21, 2022).


AML: The Financial Crimes Enforcement Network announced on June 23, 2022, that it had identified Jurisdictions with Anti-Money Laundering and Combating the Financing of Terrorism and Counter-Proliferation Deficiencies (here).

Hong Kong

Report: The Securities and Futures Commission of Hong Kong published its annual report for 2021-2022 on June 22, 2022. The report details the regulator’s priorities for upholding market integrity and strengthening is regulatory status (here).


Remarks: Heng Swee Keat, Deputy Minister at Minister for Monetary Authority of Singapore, delivered remarks at the opening of Point Zero Forum on June 22 2022. His remarks focused on the Swiss-Singapore collaboration, Digital-Sustainability drivers and a Regulator-Industry partnership (here).

Release: The regulator published a release addressing opportunities for green financing and combating greenwashing on June 21, 2022 (here).

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