On Capitol Hill this week the Senate Banking Committee
heard testimony from SEC Chairman Schapiro regarding the Commission's efforts
to implement Dodd-Frank. Despite budget constraints the SEC is moving forward
in accord with the directives in the legislation.
SEC enforcement focused on the market crisis and insider
trading. The Commission filed an action against three former senior officers of
now collapsed IndyMac bank. The complaints center on claims that as the bank
spiraled to its demise while the market crisis unfolded its senior officers
failed to disclose the true financial to existing shareholders and investors
solicited to buy shares. With a new insider trading case the Commission
continued to push the edges of the mosaic theory. The SEC also partially
resolved another insider trading case.
Finally despite the delays in the implementation of the
new U.K. Bribery Act, the Serious Frauds Unit settled a bribery case related to
a series of DOJ and SEC FCPA actions.
Market reform and the SEC
Dodd-Frank: SEC Chairman Mary Schapiro testified before the Senate
Banking Committee regarding the implementation of Dodd-Frank. Ms. Schapiro
began by noting that under the Act the SEC is responsible for over 100
rulemaking provisions and is required to conduct more than twenty studies and
create five new offices. To date the SEC has issued twenty-five proposed rule
releases, seven final rule releases and two interim final rule releases. The
agency has also completed five studies. Ms. Schapiro then reviewed the Commission's
efforts in areas which include OTC derivatives, fund advisers, asset-backed
securities, credit rating agencies, corporate governance and executive
compensation, investment advisers and the related studies, specialized
disclosure provisions, whistleblowers, the Volker rule, procedural rules for
SRO filings, and the creation of SEC offices. The testimony concludes with a
discussion of funding (here).
Derivatives: SEC Chairman Mary Schapiro
also testified before the House Financial Services Committee on the
implementation provisions which relate primarily to the regulation of over-the
counter derivatives markets and the supervision of systemically important
payment, clearing and settlement systems (here).
SEC Enforcement
Failure to update/supervise: In the Matter of
Johnny Clifton, Adm. Proc. File No. 3-14266 (Feb. 17, 2011)
is an action against Johnny Clifton, a principal of MPG Financial, LLC, a
registered broker-dealer. According to the Order, in 2009 MPG Financial was
selling limited partnership interests in Managed Petroleum Group, Inc., an oil
and gas exploration business. Mr. Clifton supervised the sales and directed the
salesmen to use a PPM and information he furnished at periodic meetings. As the
drilling project moved forward the company updated Mr. Clifton. That
information, some of which was negative, was not furnished to the salesmen soliciting
investors. In some instances investors were led to believe that drilling and
exploration had not started. Thus investors were furnished with incorrect
information. The firm supervisory procedures, written by Mr. Clifton, were
deficient in two key respects. There were inadequate procedures for reviewing
outgoing correspondence and for providing material information to investors
regarding investments. As a result the Order charges willful violations of
Securities Act Sections 17(a)(1), (2) and (3). The action is proceeding to
hearing.
Insider trading: SEC v. Ni,
Civil Action No. CV-11-0708 (N.D. Ca. Filed Feb. 16, 2011) is a settled insider
trading case against Zhenyu Ni. The Commission's complaint alleges violations
of Exchange Act Sections 10(b) and 14(e). It claims that Mr. Ni traded while in
possession of material non-public information he misappropriated in advance of
the January 16, 2010 announcement that Bare Essentials, Inc. would be acquired
by a large Japan based company. The information came from a visit to his
sister. She was employed as the Tax Director of Bare Essentials and was working
on the deal. During the visit Mr. Ni heard fragments of telephone conversations
and observed that she was very busy. He subsequently traded in the shares of
the company. Mr. Ni sold his position after the deal announcement at a profit
of over $157,000. The defendant settled the case, consenting to the entry of a
permanent injunction prohibiting future violations of each section cited in the
complaint. He also agreed to pay disgorgement and prejudgment interest of
$157,066 and a penalty in the same amount.
Insider trading: SEC v. Devlin,
Case No. 20831 (S.D.N.Y. Filed Dec 18, 2008) is an action which centers on acts
by Matthew Devlin, a former Lehman Brothers registered representative, who is
alleged to have misappropriated inside information about thirteen pending
corporate transactions over a four year period. The information came from his
wife, a partner in an international public relations firm. Mr. Devlin then
tipped various individuals about selected deals to curry favor with his friends
and former clients. Those individuals used the information to trade. This week
the Commission settled with four of the nine defendants. Settlements were
announced with defendants Glover, Bower, Faulhaber and Holzer. Each settling
defendant consented to the entry of a permanent injunction prohibiting future
violations of Exchange Act Sections 10(b) and 14(e). Each defendant also agreed
to additional relief as discussed here.
Investment fund fraud: SEC v. Beachy,
Civil Action No. 11-cv-320 (N.D. Ohio Filed Feb. 15, 2011) is an action against
Monroe Beachy. The complaint, which alleges violations of Securities Act
Sections 5 and 17(a) and Exchange Act Section 10(b), centers on claims that the
defendant raised over $33 million by targeting his fellow Amish as investors in
a fraudulent offering of unregistered securities. According to the complaint,
since 1986 Mr. Beachy has raised funds from about 2,600 investors, claiming
superior returns for accounts he permitted investors to treat as money market
funds. While investors were told their funds would be used to purchase
risk-free U.S. government securities, in fact he put the money in speculative
investments, high yield junk bonds and other investments. Mr. Beachy has
consented to the entry of a permanent injunction based on each of the sections
cited in the complaint. A financial penalty was not imposed based on the
defendant's financial condition.
Financial fraud: SEC v. Perry,
Civil Action No. CV 11-01309 (C.D. Cal. Filed Feb. 11, 2011); SEC v.
Abernathy, Civil Action No. CV 11-01308 (C.D. Cal. Filed Feb. 11, 2011).
These cases center on the collapse of IndyMac and its federally-chartered
thrift, IndyMac bank. The defendants are Michael W. Perry, the former Chief
Executive Officer and Chairman of the board of IndyMac Bancorp, Inc., A. Scott
Keys, the former Executive Vice President and Chief Financial Officer of
IndyMac and S. Blair Abernathy, the former Executive Vice President and Chief
Financial Officer of IndyMac Bancorp, Inc. Mr. Abernathy settled with the
Commission. The action as to Messrs. Perry and Keys is in litigation. The
complaint against Messrs. Perry and Keys centers on claims that as the bank's
financial condition deteriorated during the market crisis and stock sales were
made in a effort to bolster its declining capital, the defendants failed to
disclose its true financial condition. Rather, the filings and offering
documents told investors that the bank was financially sound. The complaint
against Messrs. Perry and Scott alleges intentional misconduct. It is based on
alleged violations of Securities Act Section 17(a), Exchange Act Section 10(b)
and aiding and abetting violations of Section 13(a).
The complaint against Mr. Abernathy is substantially
similar but centers on claims that he failed to ensure that filings discussing
the loans disclosed that a significant portion of the origination documents
were defective. The complaint alleges violations of Securities Act Sections
17(a)(2) and (3). To resolve the case Mr. Abernathy consented to the entry of a
permanent injunction prohibiting future violations of the sections cited in the
complaint. He also agreed to pay a civil penalty of $100,000 and $25,000 in
disgorgement along with prejudgment interest. Mr. Abernathy also consented to
the entry of an administrative order barring him from practicing before the
Commission as an accountant with a right to apply for reinstatement after two
years.
CFTC
Investment fund fraud:
The CFTC won an emergency freeze order in a case against Larry Goover in the
Eastern District of Texas. The agency charged Mr. Groover with running a forex
Ponzi scheme. He is alleged to have solicited over $1.4 million from investors.
Less than half of the funds were invested in forex and then lost. The balance
was misappropriated for personal use and to repay earlier investors. The case
is continuing.
Investment fund fraud: The CFTC obtained an emergency freeze order in an
action against Brian Kim and Liquid Capital Management LLC in the Southern
District of New York. The complaint centers on claims that the defendants
raised more than $2.1 million from 37 individuals based on false representations
that they had a successful record of investing. In fact during 2010 Liquid
Capital lost just under $300,000 and used another $300,000 to make Ponzi like
payments to investors while diverting over $800,000 to personal use. In
addition, Mr. Kim is alleged to have stolen $400,000 from his condominium
association in an effort to try and recoup losses and to have lied to the
National Futures Association regarding the solicitation and trading of customer
funds. A New York state grand jury has returned an indictment against the
defendants. The CFTC's case is in litigation. .
Criminal cases
U.S. v. Shea
(S.D.N.Y.) is an action against Stephen Shea. According to the superseding
indictment, Mr. Shea and two others operated an investment fund fraud and
manipulated the securities of two companies. From 1998 through 2006 Mr. Shea
and his coconspirators raised over $140 million from investors whose money was
to be put into private placements. In fact the funds were used to pay excessive
and undisclosed commissions to brokers, for various investment opportunities
and to pay other investors. In connection with this scheme brokers at Sky
Capital, LLC, of which Mr. Shea is the former CFO, manipulated the shares of
two affiliated entities. This week Mr. Shea pleaded guilty to one count of
conspiracy and one count of securities fraud. The date for sentencing has not
been set.
FINRA
FINRA imposed a fine of $450,000 on Lincoln Financial
Securities, Inc. and $150,000 on an affiliated firm, Lincoln Financial Advisors
Corporation for having inadequate procedures to protect confidential customer
information. FINRA rules require that firms have procedures to protect
confidential customer information. Here each firm had inadequate procedures
because this type of information could be accessed on a computer using shared
login and password information. This meant that the firms had no way to track
who had access to the information. Lincoln Financial Securities had this
deficiency for seven years while Lincoln Financial Advisors' procedures were
deficient in this respect for two years.
Court of appeals
Materiality: Landmen Partners, Inc. v. The Blackstone Group, L.P. No.
09-26-cv (2nd Cir. Feb. 10, 2011) is a class action arising out of the IPO of
the Blackstone Group. The complaint alleges violations of Securities Act
Sections 11 and 12(2). The district court dismissed the complaint, concluding
that the alleged misrepresentation and omissions were not material.
Specifically, the court found that claims that one portfolio company failed to
disclose that it was moving into a riskier business, that a high tech portfolio
company lost a significant contract and the failure to include deteriorating
real estate conditions in the discussion about the real estate investments were
not material. As to the first two claims each represented very small fractions
of the overall business of the Group. As to the latter, defendant was not
required to disclose general market information.
The Second Circuit reversed. Initially the Court noted
that since there is no fraud claim pleaded here the higher Rule 9(b) standard
is not applicable. Furthermore on a motion to dismiss since materiality is
inherently a fact question the complaint should not be dismissed unless the
information is "so obviously unimportant" to a reasonable investor that
reasonable minds could not differ. Here the question is governed by Item 303 of
SK regarding MD&A. It requires the disclosure of trends reasonably likely
to have a material impact. Plaintiffs' allegations are sufficient on each claim
the court concluded. As to the first two issues the district court incorrectly
viewed the question by looking at the overall portfolio. This would permit a
defendant to balance off various items and thus conceal material information.
Viewed in the context of the portfolios the information was material. And, the
specific portfolios here were important. Similarly, as to the information about
the real estate market, the question was not simply disclosing generic market
information. Rather, the claim is that defendant failed to disclose the impact
of the trends in the market on its holdings. This is material at this stage of
the case. Accordingly, the decision of the district court was reversed.
New York
The NYAG announced that Henry "Hank" Morris was received
the maximum sentence of one and one third to four years in prison for his role
in New York's "pay to play" scandal. Mr. Morris was the chief political adviser
to former Comptroller of the State of New York Alan Hevesi. In November 2010 he
pleaded guilty to a felony for his role in the kickback scheme.
U.K.
M.W. Kellogg Limited, a wholly owned subsidiary of KBR,
settled civil corruption charges with the U.K. Serious Fraud Office. In
connection with the settlement the company agreed to pay $11,238,886 as a civil
fine. The amount equals its share of dividends payable from profits generated
for work on Nigeria's "Bonny Island project. This settlement is based on the
FCPA actions settled by KBR, Technip S.A. and Snamprogetti Netherlands B.V.
with the Department of Justice and the Securities and Exchange Commission.
For more news involving securities issues, visit SEC Actions, a blog by Thomas
Gorman
For
more information about LexisNexis products and solutions connect with us
through our corporate site.