Nothing SOx-y About SEC’s JP Morgan “Whale” Settlement

 The Wall Street Journal’s Deborah Solomon contends “Sarbanes-Oxley Harpoons The Whale”. Solomon is talking about JP Morgan Chase and the recent settlement between the bank and several regulators, including the SEC, over a 2012 whale of a loss from credit derivatives trades gone very, very sideways.

Solomon repeats the SEC’s claims, outlined in the regulator’s settlement with JP Morgan announced September 19, that senior management didn’t fully inform the JP Morgan audit committee of problems it was finding with the losses on the “Whale” trades. When the JPM audit committee met with some members of bank senior management to discuss “mounting losses” in the Chief Investment Office credit derivatives portfolio, according to Solomon the SEC says:

“Despite the requirement to keep the Audit Committee apprised of the significant control issues that were under review, there was no discussion” of the reviews underway and “no discussion of the fact that an outside law firm had been retained to advise on disclosures to be made in the first quarter Form 10-Q.”

Solomon says that keeping the Audit Committee in the dark “violated the audit committee’s rules, as well as Sarbanes-Oxley, which requires companies to assess their internal controls on a quarterly basis and disclose any concerns about deficiencies or material weaknesses.”

The SEC first leads Solomon to the Sarbanes-Oxley connection in its press release:

According to the SEC’s order instituting a settled administrative proceeding against JPMorgan, the Sarbanes-Oxley Act of 2002 established important requirements for public companies and their management regarding corporate governance and disclosure. Public companies such as JPMorgan are required to create and maintain internal controls that provide investors with reasonable assurances that their financial statements are reliable, and ensure that senior management shares important information with key internal decision makers such as the board of directors. JP Morgan failed to adhere to these requirements, and consequently misstated its financial results in public filings for the first quarter of 2012

Then, in the very first paragraph of the settlement document, the SEC puts the SOx law front and center, citing the Sarbanes-Oxley Act of 2002 twice:

Public companies are responsible for devising and maintaining a system of internal accounting controls sufficient to, among other things, provide reasonable assurances that transactions are recorded as necessary to permit preparation of reliable financial statements. In addition, the Sarbanes-Oxley Act of 2002 (“Sarbanes-Oxley”) established important requirements for public companies and their management with respect to corporate governance and disclosure. For example, public companies are obligated to maintain disclosure controls and procedures that are designed to ensure that important information flows to the appropriate persons so that timely decisions can be made regarding disclosure in public filings. Commission regulations implementing Sarbanes-Oxley therefore require management to evaluate on a quarterly basis the effectiveness of the company’s disclosure controls and procedures and the company to disclose management’s conclusion regarding their effectiveness in its quarterly filings.

Solomon should stop by to talk to her colleague Michael Rapoport once and a while. In July of 2012 Rapoport wrote:

As the Sarbanes-Oxley Act turns 10 years old, the law’s biggest hammer—the threat of jail time for corporate executives who knowingly certify inaccurate financial reports—is going largely unused.

After the financial crisis, the certification rules seemed like a strong weapon against executives suspected of misleading investors. But prosecutors haven’t brought any criminal cases for false certification related to the crisis. Regulators have brought only a handful of crisis-related civil allegations in that area.

That’s still the case. If this is a Sarbanes-Oxley win for the SEC, why didn’t the agency use any of the Sarbanes-Oxley Act sections to force individual civil accountability? Why doesn’t the Department of Justice criminally prosecute under the statute and force jail time?

The SEC says JP Morgan violated the much less sexy Sections 13(a), 13(b)(2)(A), and13(b)(2)(B) of the Exchange Act and Rules13a-11, 13a-13, and 13a-15. Those are “internal controls” and “books and records” rules, not civil or criminal fraud admissions. (The same ones prosecutors use when they civilly prosecute a firm for foreign bribery rather than using the criminal statues available to indict an individual. Wonder if JPM will get this same deal for the China nepotism/corruption allegations?)  Faceless corporate entity JP Morgan and its mostly nameless senior executives do not go to jail. CEO and Chairman Jamie Dimon, former CFO and still employed Doug Braunstein, General Counsel Stephen Cutler, the Chief Audit Executive and the Chief Risk Executive pass “go”, pay $200 million to the SEC, and promise to try to “cease and desist from committing or causing any violations and any future violations”.

I think it’s already too late for that.

Read this article in its entirety at the re: The Auditors, a blog by Francine McKenna.

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