Following the elections, Capital Hill is preparing for a
significant shift. The SEC and the CFTC however continue to move forward with
the implementation of Dodd-Frank. This week the Commission proposed rules for
comment on the whistleblower provisions of the Act, which promise to be very
significant for the enforcement program, as well as on security based swaps.
This week SEC Enforcement and the U.S. Attorney's Office
for the Southern District of New York brought a significant insider trading
case against a French physician. It alleges the doctor tipped several hedge
funds he advises on medical related stocks by furnishing them with inside
information on clinical drug trials. As the week drew to a close the
Enforcement Division again teamed up with DOJ this time to file a series of
FCPA actions targeting the oil services and freight forwarding business.
Interestingly, earlier in the week PWC issued a report on its annual survey of
corporate directors. According to almost 25% of the directors, their companies
do not have any FCPA compliance procedures. Over 50% of the directors stated
that their FCPA procedures do not cover agents.
Market reform
Whistleblower
program: Under Section 922 of Dodd-Frank the SEC is authorized
to pay rewards to certain individuals who provide the agency with original
information that leads to a successful enforcement action. This week the
Commission issued proposed rules under the Section for comment. The rules
provide generally that the information must be voluntarily produced and be
original. Provisions in the rules are designed to encourage employees to first
report the information to the company.
Security based swaps:
While the CFTC has primary jurisdiction over all swaps, the SEC has long had
authority over security based swaps. Under Title VII of Dodd-Frank the
Commission is required to adopt rules reasonably designed to prevent fraud,
manipulation and deception in connection with transactions in security based
swaps. Following this directive the Commission proposed Rule 9j-1 which in an
anti-fraud rule relating not just to the purchase and sale but to misconduct in
connection with ongoing payments and deliveries under a security based swap.
Market access:
The Commission adopted a new rule governing market access. In many instances
high frequency traders are provided with market access by a broker dealer. In
some arrangements, called unfiltered or naked access, the customer can place an
order without passing through the broker's system. In other instances the trade
passes through the broker's system. In view of the potential for errors or
malicious acts the new rule prohibits naked access. It also requires that the
broker put in place risk management controls and supervisory procedures to help
prevent erroneous orders and ensure proper compliance.
Board survey
PWC released the results of its annual survey of
corporate directors on a range of topics from risk management to executive
compensation and FCPA compliance (here). Key findings include:
• Almost 75% of the directors stated that compliance and regulatory issues are
already a major focus and do not require more time.
• The top five items identified as "red flags" in signaling a director to step
up his/her board involvement are: (1) a restatement of the financial
statements; (2) charges or investigations; (3) management missing strategic
performance goals; (4) an adverse 404 opinion; and (5) multiple whistle-blower
incidents.
• Almost 25% of the companies involved in the survey do not have an FCPA
compliance program.
• Significantly less than half of companies in the survey have an FCPA program
which covers employees and agents while almost 20% have a program limited to
employees.
SEC Enforcement
False statements: SEC v. Reys,
Civil Action No. 09-cv-1262 (W.D.Wa. Filed Sept. 8, 2009) is an action against
the former CEO of CellCyte Genetics Corp., a company engaged in stem cell
research. The complaint (here) alleged that false statements were made to
investors claiming that the company's cutting edge stem cell technology had
proven successful and was going to commence human trials. According to the
complaint, there was no reasonable basis for the claims. Mr. Reys is also
alleged to have improperly concealed his past and the fact that the company
engaged in a spam campaign. CellCyte, according to the Commission, engaged in
an illegal stock distribution and partnered with a Canadian stock promoter that
conducted a spam, email, fax and newsletter campaign. That campaign used false
information to inflate the price of the stock from $4 to $7.50. It later
collapsed to ten cents. This week Mr. Reys settled with the Commission,
consenting to the entry of a permanent injunction prohibiting future violations
of Exchange Act Sections 10(b) and 13(a). He also agreed to pay a civil penalty
of $50,000 and to the entry of an order barring him from serving as an officer
or director of a public company for five years. The action against the company
and another officer was resolved at the time the complaint was filed (here).
Madoff feeder funds: SEC v. Cohmad Securities Corp., Civil Action No.
09-CV-5680 (S.D.N.Y. Filed June 22, 2009) is an action against Robert Jaffe,
Maurice Cohn, Marcia Cohn and Cohmad securities Corp. The amended complaint
claims that the defendants made material misrepresentations and omissions by
referring hundreds of investors to Mr. Madoff and his firm without disclosing
that their were serious questions about its operations (here). The court
initially dismissed portions of the Commission's complaint. This week the three
defendants consented to the entry of permanent injunctions which have been
entered by the Court. Mr. Jaffee consented to the entry of an injunction
prohibiting future violations of Securities Act Section 17(a) and Exchange Act
Section 10(b) and from aiding and abetting violations of Sections 15(b)(7) and
17(a) of the Exchange Act as well as Sections 206(1), 206(2) and 206(4) of the
Investment Advisers Act. Maurice Cohn and Marcia Cohn consented to the entry of
injunctions prohibiting violations of Securities Act Section 17(a)(2) and from
aiding and abetting violations of Exchange Act Sections 15(b)(1) and 17(a) and
Advisers Act Section 206(4). Cohmad consented to the entry of a permanent
injunction prohibiting future violations of Securities Act Section 17(a)(2),
Exchange Act Sections 15(b)(1) and 17(a) and Advisers Act Section 206(4).
Issues regarding disgorgement, prejudgment interest and penalties will be
decided at a later date.
Insider trading: SEC v. Benhamou,
Civil Action No. 10-CV-8266 (S.D.N.Y. Filed Nov. 2, 2010) and U.S. v. Benhamou
(S.D.N.Y. Filed Nov. 1, 2010) are, respectively, civil and criminal, insider
trading cases against French national Dr. Yves Benhamou (here). Dr. Benhamou, a
medical doctor residing in France, specializes in hepatitis and other diseases
of the liver. He is a clinical investigative physician for Human Genome Science
or HGSI and was involved the clinical trials for Albuferon, a new drug to treat
liver disease Hepatitis C. He is also a consultant to several hedge funds which
invested in medical stocks. HGSI believed that its new drug had tremendous
potential. As advanced clinical trials progressed certain adverse effects were
experienced. Over a period of several months as the company assessed those
effects, and prior to any public disclosure of them, Dr. Benhamon repeatedly
updated the manager of the hedge funds. The funds repeatedly traded. Ultimately
the funds sold their entire stake in HGSI. A subsequent press release about the
adverse effects caused the share price to drop significantly. The funds avoided
a $30 million loss. After the announcement the funds repurchased part of their
stake. The SEC's complaint alleges violations of Securities Act Section 17(a)
and Exchange Act Section 10(b). The criminal complaint contains one count of
conspiracy to commit securities fraud and one count of securities fraud. Both
cases are in litigation.
Free riding: SEC v. Mohammed,
Civ. No. 10-CV-5058 (E.D.N.Y. Filed Nov. 2, 2010) is an action charging Noor
Mohammed with violations of Securities Act Section 17(a) and Exchange Act
Section 10(b) centered on a "free riding scheme." According to the complaint,
Mr. Mohammed opened at least eight brokerage accounts using the identities of several
Bangladeshi immigrants. The account opening documents contained false
information. They were funded with checks totaling over $1 million. Before the
checks cleared and bounced the defendant is alleged to have purchased hundreds
of short term options. When the trades resulted in losses the accounts were
abandoned. On one occasion the account made a profit which the defendant
secured. The case is in litigation. On November 4, 2010 Mr. Mohammed pleaded
guilty to a one count information charging him with securities fraud. The
information is based on the same scheme detailed in the Commission's complaint.
U.S. v. Mohammed (E.D.N.Y. Nov. 4, 2010).
Offering fraud: SEC v. Brewer,
Case 10-cv-09832 (N.D. Ill. Filed Oct. 29, 2010) is an action against financial
services holding company Brewer Investment Group, LLC ("BIG"), its two
principals, CEO Steve Brewer and COO Adam Erickson, and BIG's related entities.
The complaint claims that a fraudulent sale of unregistered securities issued
by an Isle of Man entity - FPA Limited - was made by the defendants. Over a
period of several months 74 investors purchased $5.6 million of these notes.
The PPM used to sell the notes was materially misleading and false according to
the complaint. The proceeds were diverted to BIG in an effort to prop up the
company (here). The complaint alleges violations of Securities Act Sections 5
and 17(a), Exchange Act Sections 10(b). The case is in litigation.
Bank stock fraud: SEC v. Sterling, Case No. 10-Civ-8206 (S.D.N.Y. Filed
Oct. 29, 2010) is an action against James Sterling alleging violations of
Exchange Act Section 10(b). The complaint claims that Mr. Sterling conducted a
fraudulent scheme in connection with 51 public offerings of bank shares from
January 2003 until October 2008. Under the applicable regulations, when banks
convert from mutual to stock ownership, depositors receive priority rights to
purchase shares before other interested investors. The rights are not
transferable. Mr. Sterling opened accounts at banks in his name and that of his
daughter. When the banks converted he obtained shares through the accounts in
his daughter's name by signing her name to the applicable documents. This
harmed other shareholders who were deprived of shares because the offerings
were oversubscribed. Mr. Sterling resolved the action by consenting to the
entry of a permanent injunction prohibiting future violations of Exchange Act
Section 10(b). He also agreed to pay disgorgement and prejudgment interest of
$2,084,494 and a civil penalty of $150,000.
Criminal cases
Investment fund fraud: U.S. v. Cosmo
(E.D.N.Y.) is a criminal action in with Nicholas Cosmo, the former president
and owner of Agape World, Inc., is alleged to have raised over $195 million
from 3,000 investors with claims that their funds would be invested in
commercial business entities that accept credit cards. The investments were
suppose to pay a high rate of return. In fact Mr. Cosomo operated a Ponzi
scheme. He pleaded guilty to mail and wire fraud charges. As part of the plea Mr.
Cosmo agreed to forfeit his right in assets seized by the government and to the
entry of a restitution order of no less than $195 million to be paid to his
victims. The date for sentencing has not been set.
Court of Appeals
Collateral order doctrine: U.S. v. Krane,
No. 10-30247 (9th Cir. Oct. 29, 2010) is a decision by the Ninth Circuit
concluding that Mohawk Industries, Inc. v. Carpenter, 130 S.Ct. 599
(2009), which held that the collateral order doctrine could not be used to
appeal an order to produce privileged materials, does not foreclose the use of
the Perlman exception. In Krane an appeal was taken by intervenor
Quellos Group LLC from an order directing its former counsel, Skadden Arps, to
produce certain privileged materials prior to a criminal tax shelter trial
against two former Quellos executives.
The Ninth Circuit concluded that it properly had
jurisdiction. Under Section 1291 of Title 28 appeals may only be taken from
final judgments the Court began. Typically an order compelling compliance with
a subpoena can only be appealed from a resulting contempt citation. Although
Skadden had not been held in contempt Perlman v. U.S., 247 U.S. 7 (1918)
authorizes an appeal of an order requiring the production of privileged
materials from a third party. This is because the third party does not have a
sufficient interest in the proceeding and most likely would produce the
documents rather than challenge the order by submitting to a contempt citation.
This does not conflict with Mohawk Industries.
Honest services fraud: U.S. v. Black,
Case Nos. 07-4080, 08-1030, 08-1106 (7th Cir. Decided Oct. 29, 2010) is the
remand of Canadian news mogul Conrad Black's case (here) from the Supreme Court
following that Court's decision in U.S. v. Skilling, 130 S.Ct. 2896 (2010)
(here). Mr. Black, and two others, had been convicted by a jury of three counts
of mail and wire fraud in violation of 18 U.S.C. Sections 1341 and 1342. Mr.
Black was also convicted of obstruction of justice and sentenced to serve a
total of 78 months in prison. The two co-defendants, also executives at
Hollinger International, were given sentences of 24 months and 17 months. The
wire and mail fraud counts had been presented to the jury on alternate theories
of a fraudulent appropriation of money to which Hollinger was entitled
("pecuniary fraud") and a scheme to deprive the company of its intangible right
of honest services, 18 U.S.C. Section 1346.
Skilling limited the honest
services fraud to bribery and kickbacks, theories not presented to the jury.
Since the theory on which the jury based its verdict cannot be determined, the
convictions can only stand if it is not open to reasonable doubt that the jury
would have convicted the defendants of pecuniary fraud. After reviewing the
evidence as to one alleged fraud the Court concluded that the verdict had to be
reversed. On the other fraud claim however, the Circuit Court held that there
was sufficient evidence. In remanding the case for resentencing the Court
suggested that the government consider dismissing the one count rather than
having a retrial. Then "[t]he judge could consider at the resentencing hearing
the evidence that had been presented at the original trial . . .[on the
dismissed count] in determining what sentences to impose . . . "
FCPA
Oil Services/Freight forwarding settlements: The
Department of Justice and the SEC settled FCPA with several oil services and
freight forwarding companies. The charges are based on the bribery of customs
officials. The companies involved are: Panalina, Inc.; Pride International,
Inc.; Tidewater, Inc; Transocean, Inc.; GlobalSantaFe Corp.; Nobel Corporation;
and Royal Dutch Shell plc. Generally the settlements with DOJ are predicated on
three year deferred prosecution agreements. One company resolved the investigation
by entering into a deferred prosecution agreement based on its cooperation. To
settle with the SEC each company consented to the entry of a permanent
injunction in a civil action except Shell which agreed to the entry of a cease
and desist order in an administrative proceeding. The settlements with DOJ
include the payment of $156,565,000 in criminal penalties. Each filed criminal
case is in the Southern District of Texas. The settlements with the SEC include
payments of about $80 million which includes disgorgement, prejudgment interest
and penalties. Only two settlements contain a civil penalty. The total
settlement payments are approximately $236.5 million.
The following summarizes the actions by DOJ and the SEC:
Panalpina World Transport Ltd: The
company is a global freight forwarding and logistics services firm based in
Basel, Switzerland. Its U.S. subsidiary is Panalpina Inc. A criminal
information was filed charging Panalpina World Transport with conspiracy to
violate, and violations of, the FCPA books and records provisions. The action
was resolved by entering into a deferred prosecution agreement. An information
charging the U.S. subsidiary with conspiracy to violate the books and records
provisions and aiding and abetting certain customers in violating those
provisions of the FCPA was also filed. Panalpina Inc. agreed to plead guilty to
the information. The company admitted to engaging in a scheme to pay bribes to
numerous foreign officials on behalf of many of its oil and gas industry customers.
The scheme took place between 2002 and 2007 and involved the payment of at
least $27 million to foreign officials in seven countries. This was done to
circumvent local rules regarding the import of goods and materials. The
agreements call for the payment of $70.56 million in criminal penalties. See
also SEC v. Panalpina, Inc., Civil Action No. 4:10-4334 (S.D. Tx. Nov. 4,
2010)(charging violations of Exchange Act Sections 30A, 13(b)(2)(A) and
13(b)(2)(B); settled with a consent decree and the payment of $11,329,369 in
disgorgement).
Shell Nigeria Exploration and Production Co.
Ltd. ("SNEPCO"): SNEPCO is a subsidiary of Royal Dutch Shell
plc. A criminal information was filed against the company alleging that it
conspired to violate the anti-bribery and books and records provisions of the
FCPA and aided and abetted violations of the books and records provisions. The
charges are based on claims that the company paid about $2 million to its
subcontractors knowing that some or all of the money would be used to pay
bribes to Nigerian customs officials by Panalpina to import material into
Nigeria. The action was resolved by entering into a deferred prosecution
agreement which requires the payment of a $30 million criminal penalty. See
also In the Matter of Royal Dutch Shell plc, and Shell International
Exploration and Production Inc., Adm. Proc. File No. 3-14107 (Nov. 4,
2010)(alleging violations of Exchange Act Sections 30A, 13(b)(2)(A) and
13(b)(2)(B); settled with a consent to a cease and desist order and the payment
of $18,149,459 in disgorgement and prejudgment interest).
Transocean Inc.:
The company is the Caymans Island subsidiary of Transocean Ltd., a global
provider of offshore oil drilling services and equipment. It is based in
Vernier, Switzerland. A criminal information was filed naming the subsidiary.
It alleges conspiracy to violate the anti-bribery and books and records
provisions of the FCPA and violations of the anti-bribery provisions along with
aiding and abetting the violation of the books and records provisions of the
Act. The charges are based on the payment of $90,000 by the company's freight
forwarding agents to Nigerian customs officials to circumvent import rules and
regulations. The action was resolved by entering into a deferred prosecution
agreement which requires the payment of a $13.44 million criminal penalty. See
also SEC v. Transocean Inc., Civil Action No. 1:10-CV-01891 (D.D.C. Filed
Nov. 4, 2010)(charging violations of Exchange Act Sections 30A, 13(b)(2)(A) and
13(b)(2)(B); settled with a consent decree and the payment of $7,265,080 in
disgorgement and prejudgment interest).
Tidewater Marine International Inc.:
The company is the Cayman Island subsidiary of Tidewater Inc, a global operator
of offshore services and supply vessels for energy exploration. The company
maintains its headquarters in New Orleans. A criminal information charges the
company with conspiring to violate the anti-bribery and books and records
provisions of the FCPA and with violating those provisions. It is based on
allegations that the company paid $160,000 in bribes between August 2001 and
November 2005 through employees and agents to tax inspectors in Azerbaijan to
secure favorable tax assessments. The company is also alleged to have paid
about $1.6 million in bribes through Pahalpina to Nigerian customs officials.
The action was resolved by entering into a deferred prosecution agreement which
requires the payment of a $7.35 million criminal penalty. See also SEC v.
Tidewater Inc., Civil Action No. 2:10-CV-04180 (E.D. La. Filed Nov. 4,
2010)(charging violations of Exchange Act Sections 13(b)(2)(A) and 13(b)(2)(B);
settled with a consent decree and the payment of $8,104,362 in disgorgement and
prejudgment interest and a penalty of $217,000 which was not increased because
of the criminal penalties).
Pride International:
The company is based in Huston. It has a French subsidiary, Pride Forasol
S.A.S. Pride International was charged in a criminal information with
conspiring to, and violations of, the anti-bribery and books and records
provisions of the FCPA. The French subsidiary was also named as a defendant in
a criminal information which charges conspiracy to violate, and violations of,
the anti-bribery provisions and aiding and abetting the violations of the books
and records provisions. The charges are based on claims that the company paid
$800,000 in bribes directly and indirectly to government officials in Veneuela,
India and Mexico to extend drilling contracts, secure a favorable
administrative decision relating to a customs dispute and to avoid payment of
customs duties. Pride Forasol agreed to plead guilty to the charges. Pride
International entered into a deferred prosecution agreement. The agreements
require the payment of a criminal penalty of $32.625 million. DOJ acknowledged
that during the investigation Pride provided "information and substantially
assisted in the investigation of Panalpina." See also, SEC v. Pride
International, Civil Action No. 4:10-cv-4335 (S.D. Tx. Filed Nov. 4,
2010)(charging violations of Exchange Act Sections 30A, 13(b)(2)(A) and
13(b)(2)(B); settled with a consent decree and the payment of $23,529,718 in
disgorgement and prejudgment interest). The SEC previously charged Pride
employees Bobby Benton and Joe Summers for their role in the scheme (here).
Nobel Corporation: The company is based in Switzerland. It entered into a
non-prosecution agreement. The underlying conduct is based on allegations that
Nobel paid about $74,000 to a Nigerian freight forwarding agent that was passed
on as bribes to Nigerian customs officials. The company falsely recorded the
bribe as a legitimate business expense. As part of the non-prosecution
agreement the company will pay a $2.59 criminal fine. DOJ noted: "The
non-prosecution agreement recognizes Nobel's early voluntary disclosure,
through self-investigation of the underlying conduct, full cooperation with the
department and extensive remedial measures . . . As a result of these factors,
among others, the department agreed not to prosecute Nobel or its subsidiaries
for the bribe payments, provided that Nobel satisfies its ongoing obligations
under the agreement." See also SEC v. Nobel Corporation, Case No.
4:10-cv-4336 (S.D. Tx. Filed Nov. 4, 2010)(charging violations of Exchange Act
Sections 30A, 13(b)(2)(A) and 13(b)(2)(B); settled with a consent decree and
the payment of $5,576,998 in disgorgement and prejudgment interest).
GlobalSantaFe Corp.:
The company named in an SEC complaint but was not charged by DOJ. The SEC
complaint alleges violations of Exchange Act Sections 30A, 13(b)(2)(A) and
13(b)(2)(B). The Commission claims that from January 2002 through July 2007 the
company made illegal payments to officials of the Nigerian Customs Service
through companies acting as customs brokers. In December 2008 the company
merged with a subsidiary of Transocean Inc. which is now known as Transocean
Ltd. To settle the action the company consented to the entry of a permanent
injunction prohibiting future violations of the Exchange Act Sections cited in
the complaint. It also agreed to pay disgorgement of $3,758,165 and a civil
penalty of $2.1 million.
Private actions
The City of Hialeah Employees' Retirement
System v. Toll Brothers, Inc., Civ. Action No. 07-1513
(E.D. Pa.). is a class action brought against builder Toll Brothers tied to the
subprime market. The complaint claimed that from December 9, 2004 through
November 8, 2005 defendants made misrepresentations relating to the company's
ability to open new selling communities sufficient to support its financial
projections and to continue its historically strong earnings. On October 28,
2010 the parties agreed to settle for $25 million. A more detailed discussion
of the case can be found in Kevin LaCroix's well written The D&O Diary,
www.dandodiary.com (post for Nov. 4, 2010).
FSA
The FSA is continuing its aggressive insider dealing
investigation. This week the UK regulator executed search warrants at two
addresses, one in London and one in Germany as part of the on-going inquiry.
The FSA coordinated with the police and prosecution authority in Hessen,
Germany on the execution of the warrants. Press reports note that two people
were arrested as a result of the raids.
For
more news involving securities issues, visit SEC Actions, a
blog by Thomas Gorman