The PCAOB filed a settled action involving an auditing firm in which the consent order of settlement was based on admissions of facts. The approach is similar to the one adopted by the SEC in which the Commission requires admissions of fact in select cases.
This week the SEC filed a settled FCPA action against Bristol-Myers and an action against two Blackstone affiliates based on disclosure violations. The SEC also filed a settled action based on spoofing, another tied to the failure of two affiliates to follow confidentiality procedures and actions centered on financial fraud and related party transactions.
SEC Enforcement – Filed and Settled Actions
Statistics: During this period the SEC filed 2 civil injunctive cases and 7 administrative actions, excluding 12j and tag-along proceedings.
Manipulation/spoofing: In the Matter of Briargate Trading, LLC, Adm. Proc. File No. 3-16889 (October 8, 2015) is a proceeding which names the trading firm and its co-founder, Eric Oscher, a former NYSE specialist, as Respondents. From October 2011 through September 2012 Respondents engaged in a spoofing strategy. Prior to the market open Respondents would enter non-bona fide orders on the NYSE. Subsequently on another exchange Respondents would place orders on the opposite side. A report from the Exchange called the Imbalance Message, available to subscribers, reflected the fact that there are more orders on one side of the market – an imbalance. It included the non-bona fide orders. Those orders gave false impressions of interest to other market participants. After the Message, Respondents cancelled those orders. Respondents then took advantage of the price movement by unwinding their opposite trades. Over the period Respondents made about $525,000. The Order alleges violations of Securities Act Section 17(a)(1) and (3) and Exchange Act Sections 9(a)(2) and 10(b). To resolve this action Respondents consented to the entry of a cease and desist order based on the Sections cited in the Order. In addition, Respondents will, on a joint and several basis, pay disgorgement of $525,000, prejudgment interest and a penalty of $350,000.
Procedures: In the Matter of Wolverine Trading, LLC, Adm. Proc. File No. 3-16890 (October 8, 2015). Wolverine Trading is a registered broker-dealer owned by Wolverine Holdings, L.P. Respondent Wolverine Asset Management, LLC is a registered investment adviser and a wholly owned subsidiary of Wolverine Holdings. Respondents are affiliates. Each Respondent had in place policies and procedures to prevent the misuse of material non-public information. Nevertheless, when trading an exchange traded note known as TVIX, issued by Credit Suisse AG, Wolverine Trading shared material, nonpublic information about the notes with its affiliate in March 2012. Specifically, following a trading price drop on March 22, 2012 Credit Suisse announced a reopening of issuances of TVIX on a limited basis. During and following that period Wolverine Trading shares information about TVIX with Wolverine Asset regarding its trading position, activities and strategies. Its affiliate shared with Wolverine Trading its intent to enter into a swap and other material information. These exchanges violated the firms’ policies. The Order alleges violations of Exchange Act Section 15(g) and Advisers Act Section 204A. To resolve the matter Wolverine Trading consented to the entry of a cease and desist order based on Exchange Act Section 15(g). Wolverine Assets consented to the entry of a cease and desist order based on Advisers Act Section 204A. Both firms were censured. Wolverine Asset will pay disgorgement of $364,145.80, prejudgment interest and a penalty of $375,000. Wolverine Trading will pay a penalty of $375,000. The Commission considered the remedial acts promptly taken by each firm in accepting the settlement offers.
Disclosure: In the Matter of Blackstone Management Partners L.L. C., Adm. Proc. File No. 3-16887 (October 7, 2015). Respondents Blackstone Management, Blackstone Management Partners III L.L. C., and Blackstone Management Partners IV L.L.C. are subsidiaries of publically traded Blackstone Group (collectively “Blackstone Management”). Each is a registered investment adviser. Blackstone Management advises a number of private equity Funds. Each Fund owns multiple portfolio companies. Blackstone Management typically entered into monitoring agreements with each portfolio company. The monitoring agreements stated in part that the agreement could be terminated, and the fees accelerated, if there was a private sale or IPO of a portfolio company. The monitoring fees were disclosed to partners prior to their commitment of capital. The practice of accelerating those fees was not. In addition, from 2007 through 2011 Law Firm performed legal work for Blackstone Management and the Funds. The Law Firm extended a larger discount for its services to Blackstone Management than the one received by the Funds. In view of this practice, and the failure to disclose its acceleration of monitoring fees, Blackstone Management breached its fiduciary duty and failed to have in place policies and procedures reasonably designed to prevent violations of the Advisers Act. The Order alleges violations of Advisers Act Sections 206(2) and 206(4). To resolve the proceeding Respondents consented to the entry of a cease and desist order based on the Sections cited in the Order. The firms will pay disgorgement of $26,225,203, prejudgment interest and, on a joint and several basis, a penalty of $10 million. The disgorgement and prejudgment interest will be paid into a fund to compensate the Funds and their limited partners.
Unregistered broker: In the Matter of Phillip Cory Roberts, Adm. Proc. File No. 3-16888 (October 7, 2015) is a proceeding which names as Respondents Mr. Roberts and his firm, Bay Peak, LLC. Since 2007 Respondents have participated in at least nine corporate financings or reverse mergers involving Chinese operating companies. Neither Respondent is registered with the Commission in any capacity. Nevertheless, during the financing process Respondents would work with management to raise capital through private placements and IPOs. They would also directly solicit investors and hire agents to solicit investors and participate in other parts of the registration process. The Order alleges violations of Exchange Act Section 15(a)(1). The proceeding will be set for hearing.
Insider trading: SEC v. Wu, Civil Action No. 1:15-cv-07922 (S.D.N.Y.) is a previously filed action naming as a defendant Oscar Wu, an employee of an investment bank. In late 2012 Mr. Wu’s employer was contemplating an investment in Unwired Planet. During the process he learned confidential business information and used it to trade. To resolve the matter Mr. Wu consented to the entry of a permanent injunction based on the antifraud provisions. In addition, he agreed to pay disgorgement, prejudgment interest and penalties totaling $35,038 and agreed to be barred from the securities business with a right to reapply in five years. See Lit. Rel. No. 23380 (October 7, 2015).
Financial fraud: SEC v. Petersen, Civil Action No. 5:15-cv-04599 (N.D. Cal. Filed October 6, 2015); SEC v. Knapp, Civil Action No. 5:15-cv-04598 (N.D. Cal. Filed October 6, 2015). Defendant Ryan Petersen was the CEO of OCZ Technology Group, Inc., a now bankrupt firm which once sold computer memory storage and power supply devices largely to distributor and original equipment manufacturers. Defendant Arthur Knapp was the CFO. Mr. Petersen is alleged to have orchestrated a financial fraud at the firm by mischaracterizing sales discounts as marketing expenses, channel stuffing with the firm’s largest customer and concealing customer product returns to avoid booking them. He is alleged to have profited by trading company shares during the period and to have executed false certifications. Mr. Knapp is alleged to have instituted or maintained polices that resulted in the firm’s books and records to be materially misstated. Those included reclassifying costs of goods sold as R&D, failing to capitalize labor and overhead costs in firm inventory costs and recognizing revenue prematurely. He was also responsible for the internal accounting controls which were deficient. The complaint as to Mr. Petersen alleges violations of Securities Act Section 17(a) and Exchange Act Sections 10(b), 13(a), 13(b)(2)(A) & (B), 13(b)(5) and SOX Section 304. The complaint as to Mr. Knapp alleges violations of Securities Act Sections 17(a)(2) & (3) and Exchange Act Sections 13(a), 13(b)(2)(A)&(B) and13(b)(5). Mr. Knapp resolved the action, consenting to the entry of a permanent injunction based on the Sections cited in the complaint as to him. He also agreed to the entry of an officer and director bar and to pay disgorgement of $130,000, prejudgment interest and to forego any claim against the company for $170,000 in unpaid compensation. See Lit. Rel. No. 23379 (October 6, 2015).
Misrepresentations: In the Matter of Arthur F. Jacob, CPA, Adm. Proc. File No. 3-16883 (October 5, 2015) is a proceeding which names as Respondents Innovative Business Solutions, LLC, a company co-owned by Mr. Jacob and his wife, that provides accounting, tax and investment advisory services to about 30 client households. From about 2009 through 2014 Respondents routinely made misrepresentations to clients by failing to inform them that Mr. Jacob had been disbarred by the State of Maryland for misappropriating client funds and making false statements to bar counsel, not disclosing the risks and profitability of their investments and providing false information about the advisory services. The Order alleges violations of Exchange Act Section 10(b) and Advisers Act Sections 206(1) and 206(2). The proceeding will be set for hearing.
Related party transactions: In the Matter of Home Loan Servicing Solutions, Ltd., File No. 3-16882 (October 5, 2015). Respondent Home Loan’s primary asset is Rights to mortgage servicing rights. The firm is an outgrowth of business of Ocwen Financial which is servicing securitized mortgages held in trust, including advancing funds for missed payments. Ocwen’s Executive Chairman created Home Land to take over the financing aspect of that business. Both firms are publically traded. Home Loan disclosed that it had adopted policies and procedures to avoid potential conflicts with respect to related party transactions. In fact the firm did not have any written procedures specifying when an officer or director with a conflict was required to recuse himself or herself. Thus, when the firm entered into transactions with Ocwen, sometimes the Chairman recused himself and sometimes he did not. To the contrary, the Chairman of Home Land was on both sides of transactions between the firms. The Rights acquired from Ocwen were the primary asset of Home Loan. Since they were illiquid, valuation was difficult. The valuation of the Rights was listed by the firm as a Critical Accounting Policy. To value the Rights, Home Loan retained a third party. The firm, however, developed an alternate method. That method was contrary to GAAP. Thus in August 2014 Home Loan was required to restate its financial statements incorporated in Forms 10-K for the years 2012 and 2013 and Form 10-Q for the first quarter of 2014. The Order alleges violations of Exchange Act Sections 13(a), 13(b)(2)(A) and 13(b)(2)(B). To resolve the matter the firm consented to the entry of a cease and desist order based on the Sections cited in the Order. In addition, it will pay a penalty of $1.5 million.
In the Matter of Bristol-Myers Squibb Company, Adm. Proc. File No. 3-16881 (October 5, 2015). Bristol-Myers entered the China market in 1982. The firm does business in China through Bristol-Myers Squibb (China) Investment Co. Limited which in turn operates through Sino-American Shanghai Squibb Pharmaceuticals Limited, a majority owned joint venture.
Beginning in 2009, and continuing through 2014, Respondent marketed its products to state-owned and state controlled hospitals in China. During the period, sales representatives provided items to health care providers which ranged from small food and personal care items to shopping cards, jewelry, sightseeing, and cash. It was widely known at the firm that “No money, no prescription.” Indeed, the practice was widely documented in emails and activity plans of the firm. Despite the wide spread nature of the practices, the China subsidiary failed to take effective action. In addition, the China subsidiary did not implement a formal FCPA compliance program until April 2006. There was no dedicated compliance officer at the China subsidiary until 2008 and no permanent compliance position in China until 2010. The improper practices were reflected in the books and records of the China subsidiary which were incorporated into those of the parent. The Order alleges violations of Exchange Act Sections 13(b)(2)(A) and 13(b)(2)(B).
In resolving the proceeding Bristol-Myers undertook a series of remedial acts. The firm also consented to the entry of an order based on the Sections cited in the Order. It agreed to pay disgorgement of $11,442,000, prejudgment interest and a civil penalty of $2,750,000. Bristol-Myers also undertook to report to the staff for two years regarding its anti-corruption remediation and implementation.
Engagement quality review: In the Matter of David A. Aronson, CPA, P.A., PCAOB Release No. 105-2015-034 (October 2, 2015) is a proceeding which names as Respondents the audit firm and the sole owner and employee of the firm, David Aronson. For ten audit engagements the firm failed to comply with Auditing Standard No. 7, Engagement Quality Review. The engagements were from 2011 through 2014. The reviews were not done despite the fact that the firm was on notice from PCAOB inspectors for eight of the engagements about the issue and, in one case, from the Division of Enforcement. Mr. Aronson substantially participated in the violations. In addition, for five engagements Respondents issued audit reports related to issuers for which Mr. Aronson’s son had acted in an accounting role during the period of the audit. Respondents thus violated independence requirements. To resolve the proceeding Respondents admitted to the facts in the Order. Based on the settlement the Board revoked the Firm’s registration and barred Mr. Aronson from association with a registered public accounting firm. Both were censured.
Jarkesy v. SEC, No. 14-5196 (D.C. Cir. Sept. 29, 2015) is a suit against the Commission centered on its forum selection choice. The plaintiff-appellants here are George Jarkesy and Patriot28, LLC. The firm is an unregistered investment adviser and general partner of two hedge funds. Mr. Jarkesy is the manager of the adviser. Shortly before the administrative hearing was set to commence this action was filed alleging violations of fundamental constitutional rights. The district court dismissed the complaint. The D.C. Circuit affirmed. The resolution of the question of the district court’s jurisdiction in this suit is governed by Thunder Basin Coal Co. v. Reich, 510 U.S. 200 (1994). That case identified two key points to guide the court’s determination: 1) whether there is a fairly discernible Congressional intent that the statutory scheme providing for an administrative proceeding followed ultimately by an appeal to an appellate court is exclusive and 2) if the litigant’s claims are of the type Congress intended to be reviewed within the statutory structure.
Here the provisions of the Exchange Act evidence an intent that the statutory forum be exclusive. Once there is a final order from the SEC there is a provision for review in the appropriate circuit court. The court can consider objections urged before the Commission. The statute also specifies the standard of review for factual findings, the procedure for seeking a stay and the process by which the court can remand the matter to the agency to adduce additional evidence. Plaintiffs do not “seriously” dispute this point. Rather, they focus on the second Thunder Bay factor, arguing that the particular challenges presented are not the type that Congress intended to be considered within the statutory structure. Key considerations are whether the suit is wholly collateral to the statute’s review provisions and if the claims are outside the agency’s expertise.
Plaintiffs have framed their key issue as a “facial attacks on Dodd-Frank’s amendments to the securities laws based on the Seventh Amendment and the non-delegation doctrine.” The government claimed this issue was not raised in the district court. The Court agreed. Even assuming that the issue was properly presented however, it does not mean that the district court has jurisdiction. To the contrary, since the “constitutional claims, including his [Appellants’] non-delegation challenge to Dodd-Frank, can eventually reach an Article III court fully competent to adjudicate them, it is of no dispositive significance whether the Commission has the authority to rule on them in the first instance during the agency proceedings,” the Circuit Court held.
In assessing whether the claims presented by the suit are wholly collateral to the securities laws, the Court set aside the facial challenge to Dodd-Frank, and found that each of the remaining “claims concern . . . substantive or procedural deficiencies in the Commission’s enforcement of the securities laws . . . [against Plaintiffs] to this point.” The district court was, accordingly, correct in determining that these issues are “’inextricably intertwined’ with the conduct of the very enforcement proceeding the statute grants the SEC the power to institute and resolve . ..” Indeed, the constitutional and APA issues in this case clearly are not outside the SEC administrative enforcement scheme. Rather, they constitute the affirmative defenses raised in the administrative action. The result “might be different if a constitutional challenge were filed in court before the initiation of any administrative proceeding . . .” and Plaintiffs could establish standing to raise the questions but that is not the case here the Court found. With this case Plaintiffs are attempting an end run around the statutory scheme which would only encourage piecemeal litigation.
Finally, the Court rejected Plaintiffs’ claims that Congress could not have envisioned channeling their claims through the administrative process because the issues fall outside the expertise of the SEC. The Commission has “proven fully capable of considering Jarkesy’s attacks on the fairness of his proceeding – at least in the first instance – nothing about the nature of those claims strongly suggests that Congress would have wanted to carve them out of the administrative scheme. To the contrary, the majority of Jaresy’s challenges lie firmly within the Commission’s ordinary course of business.” In the end there are “precious few cases involving interpretation of statutes authorizing agency action in which our review is not aided by the agency’s statutory construction.” (internal quotation omitted).
Whistleblowing: The Financial Conduct Authority introduced new rules for the financial services industry. These rules include requirements to: appoint a senior manager as the whistleblower’s champion; establish arrangements to handle all types of disclosures; add a provision to settlement agreements noting that workers have a legal right to blow the whistle; tell UK based employees about the FCA and PRA whistleblowing services; make a presentation to the board at least annually of a report on whistleblowing; inform the FCA if it loses an employment tribunal matter with a whistleblower; and appointment representatives to tell their UK based employees about the FCA whistleblowing service.
For more news and commentary on developing securities issues, visit SEC Actions, a blog by Thomas Gorman.
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