Securities Litigation Watch

Three years ago I looked at the flurry of SEC enforcement activity at that time and suggested a new tagline for the SEC: "SEC Everywhere". Four days later, as if on cue, SEC Chairman William Donaldson was asked at the Securities Industry Association conference why the SEC enforcement staff did not detect abuses in the mutual fund industry before they were uncovered by New York Attorney General Eliot Spitzer. Donaldson reportedly said, "We have had a full plate. We can't be everywhere." (See my follow-up post: "SEC Not Everywhere)".

So we've been in this "SEC Not Everywhere" holding pattern for three years. BNA Securities Law Daily reports that yesterday, however, ironically at the same Securities Industry Association conference, SEC Enforcement Director Linda C. Thomsen said that

she wants the enforcement division to cover all areas and issues--not just those in the headlines. Speaking at a seminar in New York, Thomsen said, "We want to make sure we are everywhere."

Accordingly, SLW is officially changing the status back to "SEC Everywhere". But you might want to check back in four days.

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Tuesday, November 7, 2006

The Twinkie Offense

In his February 2006 speech to the US Chamber Institute for Legal Reform, SEC Commissioner Atkins veered way off of his topic of litigation reform to deliver a message to corporations: stop treating the Commission like a rubber stamp by prematurely disclosing your settlement offers to, or "settlements in principle" with, the SEC staff!

He stated:

It has become a common occurrence lately that I see public companies disclosing an agreement, or settlement, "in principle" with the SEC. I can't tell you how frustrated this makes me. To understand my frustration, you must understand the context in which these situations arise.
Often in the SEC enforcement process, public companies, or sometimes their regulated subsidiaries such as broker-dealers, decide to pursue a settlement with the Commission. In the settlement process, the settling party deals directly with our enforcement staff, but the staff does not have the authority to bind the Commission to the terms of a settlement. Simply put, the settling party is offering to the enforcement staff to settle the matter based on certain violations of the securities laws, with certain remedies such as bars, penalties, or disgorgement, and in return the enforcement staff is agreeing to recommend to the Commissioners that they approve the settlement as offered.

At this stage nothing is final, and because of that lack of finality I find it hard to believe that the agreement by the staff to recommend settlement to the Commission is, by itself, necessarily an event that must be reported to shareholders. Although we Commissioners have deep respect for the work of enforcement staff, I can assure you that the next step in the process is not a rubber stamp approval by the Commission.

In fact, this Commission has shown that it does not own a rubber stamp! Proposed settlements have been, and will continue to be, disapproved or modified by the Commission when they do not meet the policy objectives of investor protection, as well as other factors. Those of you who follow closely the workings of the SEC or who practice before us know very well what I am talking about.

And yet companies routinely continue to do this, the most recent example being the press release by Twinkie-maker Interstate Bakeries. Interstate announces in its press release that

it has submitted an offer of settlement to the staff of the Division of Enforcement of the U.S. Securities and Exchange Commission (SEC) in connection with a previously disclosed SEC investigation. On January 28, 2005, IBC announced that the SEC had issued a formal order of private investigation concerning matters related to a previously announced investigation by IBC's audit committee into the manner for setting its workers' compensation reserves and other reserves.
The proposed settlement is subject to approval by the Commission. IBC has been informed that the staff of the Division of Enforcement has determined to recommend the settlement to the Commission. However, IBC cannot give assurance that the Commission will approve the proposed settlement.

It is unclear to me why companies continue to do this in the face of the Commission's clear, albeit informal, guidance on this. Anyone have any thoughts on this?

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Friday, November 3, 2006

Make Up Your Mind

Fasttimes4

Fast Times at Ridgemont High (1982)

Jefferson's Brother: My brother's gonna kill us! He's gonna kill us! He's gonna kill you and he's gonna kill me, he's gonna kill us!
Jeff Spicoli: Hey man, just be glad I had fast reflexes!
Jefferson's Brother: My brother's gonna $#!+!
Jeff Spicoli: Make up your mind, dude, is he gonna $#!+ or is he gonna kill us?
Jefferson's Brother: First he's gonna $#!+, then he's gonna kill us!
Jeff Spicoli: Relax, alright? My old man is a television repairman, he's got this ultimate set of tools. I can fix it.

According to several articles such as this one from Bloomberg, the SEC brought 574 enforcement actions in fiscal 2006 (which ended September 30), 9% fewer than the 630 cases it brought in 2005. According to the article:

The drop was largely a result of reduced staff, SEC Chairman Christopher Cox said in the statement. The agency restricted hiring in 2006 because it had to close a $48.7-million budget gap triggered partly by cost overruns in building a new headquarters in Washington.

As elaborated on in this Washington Post article,

Cox attributed the decline to temporarily reduced staff levels. The SEC as a whole lost 155 employees last year -- including 43 in the enforcement unit -- compared with fiscal 2005. A total of 3,696 people worked at the agency in 2006, with 1,189 in the enforcement division. The agency is reviewing its staffing levels and plans to restore some of the unfilled positions, officials said.

The message here from the SEC seems to be that its enforcement program suffered somewhat because it was "grappling with staffing cuts" (as the Post put it), but that they are actively trying to restore these positions and this situation will hopefully be resolved soon. That is a plausible response but it strikes me as quite different from the message the SEC sent out in August 2004 when it was similarly reported that the number of SEC enforcement actions in fiscal 2004 would be declining for the first time in many years. At that time, then-Chairman William H. Donaldson took the "half-full" approach, and declared that the decline was, in fact, "encouraging" in that it could indicate that the SEC's efforts are having a deterrent effect. He was reportedly "quick to add that it was too early for the SEC to declare victory in the war on corporate corruption." Chairman Cox could have seized on the continued decline in enforcement actions (down from as many as 679 in 2003) as additional encouraging news, but he seems to have taken the opposite approach: that fewer cases equates to a bad situation that may require a response (i.e., hire more people).

So my question: Is the fact that there are fewer enforcement actions year-over-year a good thing or a bad thing? Or neither?

And to the SEC, guest blogger Jeff Spicoli says, "Make up your mind, dude!"

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Monday, October 30, 2006

Tie Goes to the Fielder?

This article from the Financial Times notes that according to Barney Frank, the congressman "widely expected take over the chair of the House financial services committee if the Democrats retake the chamber," the creation of a global securities regulator should be considered.

Observing the growing need for cooperation between the US and foreign regulators such as the UK's Financial Services Authority, the article states:

"Doesn't that sound like fun," Mr Frank said of such co-operation. "Joint action is theoretically [good] but what does that mean? In American baseball, if the runner and the ball arrive at the base at the same time, the tie goes to the fielder. Who breaks a tie if there is a disagreement over policy between the SEC and FSA?"

(emphasis added).

OK, so there is at least the prospect of a global securities regulator down the road, which is interesting. But is it as interesting as Frank's proclamation that in American baseball, the "tie goes to the fielder?"

Anyone who has played or coached baseball has heard the expression the "tie goes to the runner" many times. So what is this new rule that Mr. Frank is making up? Indeed, a Google search shows that there are only 5 (!) reported mentions of the phrase "tie goes to the fielder" in the history of the Internet, or whatever it is that Google scours. That compares to 12,200 mentions of the phrase "tie goes to the runner"

And yet... I think Mr. Frank may actually be right. According to baseball rule 7.08(e),

7.08 Any runner is out when-

(e) He fails to reach the next base before a fielder tags him or the base, after he has been forced to advance by reason of the batter becoming a runner.

Assuming there can be such a thing as a "tie" between the runner reaching the base and the ball reaching the fielder, it would seem to follow in such a case that the runner has failed to reach the base before the fielder tagged the base, and is therefore out.

So, Barney Frank, you appear to be correct. SLW salutes your willingness to buck popular wisdom, coin a new phrase, and tie it all back to securities litigation.

Any reader thoughts on this important issue?

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Tuesday, September 26, 2006

The Butler Did It?

The SEC says the butler did it. Insider trading, that is.

Which raises the obvious question: What's the point of even being a butler these days if you aren't allowed to trade based on confidential faxes coming into your mansion regarding your master's acquisition of a dormant shell company that will be used as a vehicle to acquire and exploit the commercial rights to Elvis Presley's name and likeness?

I mean, once that's taken away from you, what's left?

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Monday, September 25, 2006

Putting It Behind You

Way back in April 2004, I wrote an article entitled "Beware the No-Spin Zone," which discussed the days immediately following the conclusion of an SEC investigation or settlement in which companies must be particularly careful not to "spin" the resolution beyond its actual terms (or risk the wrath of the SEC).

To recap that article, on Wednesday, March 10, 2004, a company called AGCO Corp., which had been the subject of an informal SEC inquiry into its accounting practices, received great news in a letter from the SEC that stated:

This [the previously announced] inquiry has been terminated, and no enforcement action has been recommended to the Commission. We are providing this information under the guidelines in the final paragraph of Securities Act Release No. 5310.

Later that same day, the Atlanta Journal-Constitution reported that AGCO had publicly announced the end of the SEC's inquiry. The newspaper quoted the company's CEO as stating: "It's a good day…. When you're sure that you haven't done anything wrong--but to the outside world it looks like you're guilty of something--it's a real relief to be vindicated from any accusations." The CEO reportedly added that although AGCO was not going to make the SEC's letter public, "They confirmed that all procedures are accurate and in accordance with prescribed accounting procedures…. The issue, as far as we're concerned, is closed and we can now devote more time to the management of the business and the company."

It is unclear what communications, if any, occurred between the SEC and AGCO following the Wednesday publication of the article in the Atlanta Journal-Constitution. By Thursday afternoon, however, AGCO had issued what must have been a painful press release titled, "AGCO Corrects Reports Regarding Letter Received from SEC." This press release included a very different quote from AGCO's CEO:

The termination of the SEC inquiry does not indicate that our accounting procedures or disclosures are correct or that we have been vindicated. That is not what the SEC letter said, and I want to correct what was reported in the media. All the letter said was that the inquiry was terminated. Neither that letter nor anything else said by the SEC staff in any way suggested that AGCO's accounting or related disclosures are correct.

Painful lessons such as this one have led corporations to respect the "No-Spin Zone" in recent years, and helped them to avoid turning what should be a positive development into a negative one. Indeed, a "default" corporate statement seems to have evolved in the past couple years in response to notice from the SEC of the termination of an investigation: companies now simply say that they are pleased that "the matter is behind us."

For example, consider these four statements from the last 12 months announcing that the SEC had terminated investigations:

Swift Transportation, September 2005: "We are pleased this matter is behind us and, looking forward, we will continue to concentrate on improving our operating results."
ClearOne Communications, July 2006: "We are pleased that this matter is now behind us and we can focus our full attention on growing our business...."
Zale Corp., September 2006: "We are pleased to put this matter behind us."
Sipex Corporation, September 2006: ""Now that this matter is behind us, we can focus our full attention on improving our company and growing our business."

Years later, the lesson still seems to be that if a company really wants to put an SEC investigation "behind it," it must respect the No-Spin Zone.

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Thursday, September 21, 2006

OK... Pretty Please?

Really? The answer to my request to the SEC back in July for an RSS feed on its Investor Claims Funds page is just "No"? Or maybe you're just still thinking it over? Maybe the RSS feed guy has been on vacation?

C'mon, SEC! It'll just take you a minute. Slap that RSS feed on there. Pretty please?

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Tuesday, September 19, 2006

Fortune Article: "Partners in Crime"

"The correlation of volatilities, historical and implied in terms of the S&P and just a general strong dropoff in the five-day volatility, making new highs, so those are all things I look at."--David Pajcin, November 22, 2005

Barney Gimbel has an excellent and quite thorough article in the current issue of Fortune ("Partner in Crime," Oct. 2, 2006) about the exploits of David Pajcin and Eugene Plotkin, the brain trust behind "Insider Trading, Inc."

The article includes information from a Fortune interview with Plotkin (the first interview with him to date), as well as some priceless material from the SEC's questioning of Pajcin. According to the article, the SEC brought Pajcin in for testimony on November 22, 2005, and asked him, among other things, about the purchase by numerous people connected to him (including his Croatian aunt) of out-of-the money call options in Reebok. Although Pajcin did not know it at the time, the SEC had already figured out that the securities Pajcin and his contacts purchased were consistently either (1) merger or acquisition targets in deals worked on by Merrill Lynch (a Merrill Lynch analyst has already pleaded guilty to insider trading in this case) or (2) companies that were about to be profiled in Business Week's market-moving Inside Wall Street column.

The article states that in response to the SEC's question, Pajcin

admitted advising many of the people involved in the case to buy Reebok, but only because he thought the stock was a bargain, not because he knew anything about a pending merger.

Plotkin held forth for the better part of seven hours on that subject, talking at mind-numbing length about the metrics he said he had applied to the stock. The SEC's Black then summarized this at length, concluding, "Have we covered all the components of your analysis with respect to Reebok specifically that you can remember, sitting here today?"

Pajcin added a few things: "The correlation of volatilities, historical and implied in terms of the S&P and just a general strong dropoff in the five-day volatility, making new highs, so those are all things I look at."

About half an hour later, Black changed the subject to Business Week. Pajcin said he didn't read it often. His answers became short. When he was shown some copies of the Inside Wall Street column, he said he wasn't familiar with it. Then when he was shown articles that had appeared the day he had sold stocks of the companies mentioned, he looked like "a deer in headlights," according to a lawyer who was present. His explanation? He had probably gotten the tips from two guys he had met in Croatian nightclubs, whom he knew only as "Carlo" and "Vladimir."

UPDATE: The Fortune article is available online here.

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Thursday, September 14, 2006

Must Be a Technical Glitch

Hmphhh.... Now this certainly is odd.... For some reason, when the SEC wins a case on summary judgment (like this one against Paul R. Johnson), the decision shows up on the SEC Litigation Releases page. But when the SEC loses a case on summary judgment, and in the process has its misuse of quotation marks compared to Britney Spears, the decision does not show up on the SEC Litigation Releases page. Very curious.

I think it must just be some kind of technical glitch. Yeah, the server must be down. I'll keep checking.

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Thursday, September 7, 2006

SEC and Britney: Not So Good on the "Quotations"

Britneyusethisoneopt_2

There's simply no way to sugarcoat it. It's just a reeeeeeeeeaaaallllllly bad day as an SEC attorney when:

(a) you lose your insider trading case on summary judgment because the court finds that the SEC's complaint fails even to raise a genuine issue of material fact worth taking to a jury, and

(b) a federal judge writes (see footnote 3 in this opinion) that your inability to use quotation marks properly is "not unlike Britney Spears...." According to the Honorable C.N. Clevert, Jr. of the U.S. District Court for the Eastern District of Wisconsin,

By putting the word “tour” in quotes, the SEC indicates that Krueger used that word in his testimony – a misleading indication, at best. Perhaps the SEC is not unlike Britney Spears in its inability to use quotation marks correctly. In her now-infamous interview with Matt Lauer, the erstwhile pop star said, “I think 90 percent of the world agrees that the tabloids have kind of gone a little ‘far’ with me lately.” Interview by Matt Lauer with Britney Spears in L.A., Cal. (June 15, 2006) (putting the word “far” in air quotes). See also US Weekly Magazine, http://www.usmagazine.com/blog/category/air-quotes/ (“As evidenced in her Dateline interview, [Britney Spears] has a knack for misusing air quotes, placing them in between words or around the wrong ones.”)

Thanks to the WSJ Law Blog for tracking this down.

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Monday, August 14, 2006

What is "Nonpublic?"

Several of the comments piling up regarding my Sharesleuth.com/Achilles' Heel post take issue with the notion that the pre-publication trades made by Mark Cuban are based on "nonpublic" information. The gist of these comments is that the information assembled by Sharesleuth.com is all from the public domain, based on Sharesleuth.com's own due diligence, etc. so how can it be "nonpublic?"

The answer to that question is that the nonpublic element of this plan relates to which company Sharesleuth.com will be writing about. Assume that Sharesleuth.com generates enough of a following that its investigative reports are able to move the market--which will be the likely result if Sharesleuth.com proves that it can expose previously unknown fraud within public companies. Does anyone not associated with Sharesleuth.com know which company the next Sharesleuth.com report will be about? Of course not--that's not public information. Would you like to know which company the next report is about in advance so that you could take advantage of the imminent decline in the price of that stock? You tell me.

The nonpublic element, therefore, is knowing the specific company about which a market-moving publication is going to issue a report or article. This is exactly what was involved in the Winans (WSJ) case, as well as in the numerous cases involving people who begged/borrowed/stole pre-publication copies of Business Week so that they could trade in advance of the market-moving information in its "Inside Wall Street" column. There was no specifically "nonpublic" information contained in the actual WSJ or Business Week articles, either.

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Tuesday, August 1, 2006

'Bout Time!

The SEC announced today that on July 28, a federal court in Georgia ordered Arnold E. Johns, Jr. to pay $372,578 of disgorgement, plus prejudgment interest of $399,209, for insider trading. To which all we can say is... it's about time!!!

Suffice it to say that the insider trading at issue occurred many, many moons ago. How long ago? Without looking at the release, see if you can guess. Here are your clues:

1. As noted above, the prejudgment interest now actually exceeds the amount of the disgorgement.
2. ER was the top-rated TV show.
3. The #1 song on the pop charts that month was "One Sweet Day" by Mariah Carey and Boyz 2 Men.
4. Dallas beat Pittsburgh to win the SuperBowl.
5. At least where I worked at that time (the SEC), you needed to go to a special room and terminal to use the Internet.

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Friday, July 28, 2006

WorldCom Update: SEC Sues Former WorldCom Accountant

Just when you thought that the WorldCom case was dead and buried, it appears that the SEC is still plugging along. Despite the fact that all of the key players in the fraud have now been prosecuted and sentenced (some, such as Betty Vinson, have actually already pleaded guilty, served their entire sentence and been released!) the SEC announced a new civil case against Mark Abide, the company's former director of property accounting.

The SEC announced that

The Commission's action against Abide is its seventh civil action related to the WorldCom fraud. The complaint filed today alleges from the first quarter of 2001 through the first quarter of 2002, Abide made, and directed others to make, improper accounting entries into WorldCom's depreciable asset accounts in order to conceal improperly capitalized expenses. In January and February 2002, while the fraud was being carried out by Abide and others, Abide sold 6,728 shares of WorldCom stock (99% of the WorldCom stock he owned), avoiding losses of nearly $58,000.

Abide has agreed to settle the matter by consenting to pay $128,806: $57,947 in disgorgement, prejudgment interest of $12,912 and an insider trading civil money penalty of $57,947. Abide also has agreed to be suspended from practicing before the Commission as an accountant with the right to request his reinstatement after five years.

Oddly enough, Abide appears to be the only one of the seven SEC defendants to date (Ebbers, Sullivan, David Myers, Buddy Yates, Vinson, and Troy Normand) who will actually pay a fine to the SEC. The SEC said yesterday that Sullivan and Yates are "unable to pay" the fines/disgorgement previously imposed upon them (Sullivan already forked over his sweet house in Boca Raton as part of the securities class action settlement), and that no such penalties were imposed on Vinson and Normand because they also were unable to pay anything. The SEC had previously indicated that the same was true of Myers. Ebbers' SEC settlement did not include any fines/disgorgement.

Wait a minute--The last we read, Vinson was gainfully employed as a controller at a KFC. I guess the SEC can't work out some kind of payment plan?

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Thursday, July 20, 2006

From the Smoking Gun Dept.

Smokinggun The SEC announced the filing of a case yesterday against Steven Misner, the former CEO of now-bankrupt Southwestern Water Exploration Co. According to the SEC, Misner tried to inflate Southwestern's stock price by creating the false impression that Southwestern owned water of great value.

The SEC alleges that Misner made false statements in Southwestern's July 16 and November 4, 2002 press releases, claiming that Southwestern owned rights to, and was developing, a large freshwater underground reservoir worth hundreds of millions of dollars. The SEC alleges that in fact, however, Misner knew or should have known that Southwestern did not own any rights to the water, that the press releases grossly overstated the value and amount of water in the reservoir, and that Southwestern had made no effort — and did not intend — to develop the reservoir.

Not helping Misner's case one bit is an email he allegedly sent 3 days before the November press release stating:

If this project blows up in our face . . . we, the company, need to ensure that we have taken every step possible to both maximize the return to the company and limit our liability. . . . [R]emember that everyone, including [our large investor] and the majority of our shareholders, think that we have at least 100 million of water for sale which is not the case . . .

UPDATE: In this article on Stockwatch.com, Mr. Misner states that the SEC has gotten its facts wrong. He also states that the email quoted above is taken out of context. According to the article,

Mr. Misner says he was referring to inflated figures issued by the company's then president, Tom Lenney. He claims he was trying to release accurate figures, but nobody, including Southwestern's largest shareholder, believed the engineering report.

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Spread the RSS Love?

Now that the SEC has embraced RSS technology for publicizing key events such as additions to its Litigation Releases webpage, may I make another suggestion? One of the most important pages on the SEC's website for our clients at ISS' Securities Class Action Services is the Investor Claims Funds page, which is the only real information source that lists "the SEC enforcement cases in which a Receiver, Disbursement Agent, or Claims Administrator has been appointed." This page is critical to us because SCAS files claims for its institutional clients in securities class action and SEC settlements.

The Investor Claims Funds page currently has no RSS feed, however, so users of that page have no easy way to see if any new cases have been added to the lengthy list (currently over 150) of cases listed simply in alphabetical order. If the SEC was to spread the RSS love and add a feed to the Investor Claims Funds page, users would know immediately when a new SEC settlement had reached the stage at which claims could be filed.

So can we have an RSS feed on that page? Please?

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Thursday, July 6, 2006

SEC Provides RSS Feed

Back in November 2005 when I learned that the U.S. Attorney's Office for the District of Maryland had begun offering an RSS feed to publicize its new cases, I wrote:

"SEC, care to follow suit? It seems like a no-brainer to have an RSS feed of the SEC Litigation Releases, etc. I'll be your first subscriber.

Well, the day has finally arrived--the SEC's Litigation Releases page now sports the familiar shiny orange "XML" button and SLW is officially on board as a subscriber. Thanks, SEC!

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SEC May Sue Mercury Interactive Directors Over Options Backdating

This press release attached to Mercury Interactive's Form 8-K dated July 3, 2006 states that

On June 23, 2006, the SEC Staff, as part of the “Wells” process by which the SEC Staff affords individuals and companies the opportunity to present their views regarding potential action by the SEC, advised counsel for directors Igal Kohavi, Yair Shamir and Giora Yaron that the SEC Staff is considering recommending that the Commission file a civil enforcement proceeding against each of these directors under applicable provisions of the federal securities laws. The directors have advised the SEC Staff that they intend to file a Wells submission arguing that they did not violate the federal securities laws, that they did not participate in or know of option backdating and that the charges under consideration are legally and factually without basis.

As I have written here and elsewhere, it is quite unusual for the SEC to pursue a public company's outside directors for financial shenanigans or fraud at the company. But that appears to be the direction in which this case is headed.

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Monday, June 19, 2006

Always the Maverick

mav·er·ick n. One that refuses to abide by the dictates of or resists adherence to a group; a dissenter. adj. Being independent in thought and action or exhibiting such independence....

How appropriate that the NBA team owner Mark Cuban purchased years ago was called the "Mavericks." Whether it is his unique style in owning the team, the ideas that he posts on his usually provocative Blog Maverick weblog, or the businesses that he pursues (which range from High Definition TV to the Swash), Cuban is himself a true Maverick (for the record, I'm a Wizards fan rooting for the Mavs for no particular reason, and I don't see how the refs could call that ticky-tack "foul" on Dirk at the end of OT to basically hand the game to the Heat last night).

So why is Cuban appearing on the pages of SLW today? Let's back up a bit first to put this in context. There have been many, high-profile insider trading cases brought through the years against people who traded based on non-public information concerning what would be imminently published in influential (and market-moving) newspapers or magazines. The case against R. Foster Winans, the Wall Street Journal reporter who was sentenced to prison for his part in a scheme to trade stocks based on advance information about WSJ's "Heard on the Street" column, is a prime example. And please don't even get me started on the Business Week cases.

These "trading in advance" cases, however, have always depended on a curious fact that allowed the SEC or prosecutor to allege that the "breach of duty" required to prove insider trading existed: that the publication whose information was stolen or misappropriated considered the information to be confidential and had a policy in place to protect that information pre-publication. Indeed, I recall reading a court opinion in one of the Business Week criminal cases years ago and wondering to myself: "So if there was no confidentiality policy then this would be legal trading?"

Enter Mark Cuban. As discussed in this article, Cuban is an investor in a new website called Sharesleuth.com that will employ investigative journalists to ferret out and blow the whistle on corporate fraud. Certainly a worthy endeavor, but the story does not end there. Cuban is quoted in the article as stating, “there are a million ugly stories in the financial underground.... We plan on finding and sharing and profiting from them.”

Did you catch that last "profiting" part? According to the article and Cuban's own blog, Cuban plans to buy and sell the stocks of the companies the Sharesleuth site writes about in advance of the publication of these Sharesleuth stories. As Cuban writes in this post on his blog,

I just hired a young, award winning journalist to partner with me on a blog that will do nothing but try to uncover corporate fraud. Young, energetic, fired up and damn the stuff i have seen so far is good. Will the payoff be about accounting gone bad ? Will it be a Skilling and Lay standing in front of the mike picture with accompanying text ? No chance.

If we found the enron scam, I would push to tell the story with a flash animation parody of Skilling and Lay to Shaggies “It wasnt me” along side a Bethany McLean/Peter Elkind quality story. Just as the movie “Enron The Smartest Guys in the Room ” told the story in a detailed and entertaining way, our goal will be to do the same.

Business is an easy place for me to start because the fraud and sithlord wannabes uncovered can not only create great stories of interest for the webite and HDNet World Report, but also allow me to buy and the sell the stocks of the company. A journalistic conflict you say ? Not any more. Not in this world. It will be fully disclosed and explained. This site is for the profit of its owners and we will buy and sell stocks that are discussed, before they are made available on the site. So make any decisions based on this information accordingly.

Facts are facts. Right is its own defense. If we can uncover companies whose stock is public and that can be bought or sold and that allows us to pay for more in depth research and effort. Im good with that.

So there you have it, SEC. Sharesleuth will have no "confidentiality" policy about its information. To the contrary, it will apparently have the opposite policy--the owners not only may but will trade on the publication's information in advance. And they are telling you this up front.

I confess that I do not know whether this maverick "business plan" is legal or not. If it is, I'm sure that Plotkin and Pajcin are kicking themselves right now for not including it in the Insider Trading, Inc. business plan. I am very curious what insider trading experts such as Profs. Bainbridge, Ribstein or Henning would have to say about it. Perhaps they will weigh in?

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Thursday, June 1, 2006

Are Corporate Execs Gaming Rule 10b5-1?

An article in yesterday's LA Times discusses a new study by professors at Stanford Business School that reportedly shows at least some statistical link between corporate executives' "planned" sales under Rule 10b5-1 and negative corporate news. Under Rule 10b5-1, an affirmative defense to a charge of insider trading exists if the person making the purchase or sale in question can demonstrate that "before becoming aware of the [inside] information, the person had ... adopted a written plan for trading securities" and the trading was done pursuant to the terms of the plan.

Since its enactment six years ago, Rule 10b5-1 has become a popular and heavily-relied upon tool for executives who wish to sell stock over time without being accused (hopefully) of insider trading. The idea is that an executive with no inside information at the time he or she creates the plan can lay out a schedule for selling stock and then strictly follow that plan--even if they later come into possession of inside information.

The Stanford study reportedly showed that

On average, executives participating in the programs initiated 10.4 percent of their stock sales before a negative earnings report that would send share prices lower. Sales were initiated only 5.2 percent of the time in advance of positive earnings news.

If the sales pattern were truly random, one would expect those percentages to be about equal, Stanford business professor Alan D. Jagolinzer wrote in the report, which is undergoing peer review. The study examined stock sales at 191 companies.

The article further notes that while Jagolinzer didn't find any conclusive evidence that executives were gaming the system, he "speculated that executives could be timing the release of corporate news that might have an effect on their stock sales, given that insiders know when their trades are scheduled to occur."

I suppose that "release timing" is theoretically possible in some small subset of cases. Rule 10b-5 plans are very widespread among corporate executives, however, and it seems to me that the vast majority of executives do not control the timing of the release of negative news in their companies. In addition, it is quite likely that if multiple executives at a corporation had trading plans, the dates and relative amounts of the planned sales of these executives would vary so widely that a conspiracy to time the release with any particular date would be ineffective (and pretty far-fetched).

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Tuesday, May 23, 2006

SEC Files First Enforcement Action Under Patriot Act

Did you know that the SEC's Division of Enforcement brings cases under the USA PATRIOT Act?

Did you know that "USA PATRIOT" is actually an acronym for Uniting and Strengthening America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism?

As of yesterday, the SEC does bring such cases and, as of today, you will be able to answer "yes" to both questions above.

The SEC announced yesterday that it had

sanctioned Los Angeles broker-dealer Crowell, Weedon & Co. for failing properly to document its customer identification program. The USA PATRIOT Act seeks to protect the U.S. financial system from money laundering and terrorist financing by, among other things, requiring broker-dealers to implement and document identity verification procedures for all new accounts.

The SEC stated that without admitting or denying any of the findings, Crowell, Weedon consented to a C&D order prohibiting future violations of Section 17(a) of the Securities Exchange Act of 1934 and Rule 17a-8 thereunder. The SEC further alleged that Section 17(a) of the Securities Exchange Act of 1934 and Rule 17a-8 require a broker-dealer to comply with certain record-keeping requirements under the Bank Secrecy Act, as amended by the USA PATRIOT Act.

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Monday, May 22, 2006

How the SEC Caught the Estonian Spider Hackers

Back in November I applauded the SEC for its ability to crack the unusual insider trading case allegedly perpetrated by the Estonian Spider Hackers. I concluded that post by stating that I'd love to know the story behind how the SEC finally caught these guys.

Now, thanks to this detailed article by Sonja Sherwood of the Philadelphia Business Journal, the full story is available. The article is a very flattering look at the efforts by Dan Hawke and others in the SEC's Philadelphia office to solve the mystery of an Estonian brokerage firm that made hundreds of perfectly-timed trades where they were able to buy on upcoming good news and sell on upcoming bad news.

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Friday, May 12, 2006

Insider Trading, Inc.

The Plotkin/Pajcin insider trading ring discussed here and here, and which continues to unravel, is the most audacious insider trading case ever, in my opinion. And it took me about 5 minutes to figure out the proper adjective to use in the prior sentence before settling on "audacious."

To me, the case is paradigm shift in insider trading--Plotkin and Pajcin were not your standard insider trading defendants working at a company who learned in the course of business that a material transaction was about to occur. Far from it.

If the SEC and DOJ's allegations are true, these guys actually sat down together and mapped out a detailed business plan to make money through insider trading. You can almost imagine them brainstorming and making a list of all of the ways that inside information could possibly be obtained. According to the SEC/DOJ, they allegedly followed through on many of them.

Indeed, "Insider Trading, Incorporated" would have been an appropriate name for this "business." After all, Insider Trading, Inc. allegedly had employees--the DOJ's criminal complaint alleges that the defendants actually recruited people via Craigslist to go out and get jobs at the plant that printed Business Week so that they could obtain advance copies of the magazine. Insider Trading, Inc. also allegedly had distinct product lines:

the Investment Banker Information product line;
the Business Week Information product line; and
the Grand Jury Information product line.

There were also new product lines in the pipeline that apparently never got off the ground, such as the Exotic Dancer Information product line. Who knows what other product lines were on the drawing board? I bet we learn about others as this case unfolds.

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Wednesday, May 10, 2006

Thanks for Nothing

In the "egregious, flat-out betrayal" category for insider trading cases we have previously seen:

1. Wife betraying husband;
2. Husband betraying wife; and
3. Boyfriend betraying girlfriend (and then dumping her, to boot)

What's left? Well, as of May 2 we now have divorced woman betraying divorced man. The SEC alleges that Marnie Sharpe learned from her "close friend" about a biopharmaceutical company's favorable and confidential clinical trial results. The close friend ("Among other things, Sharpe and the executive, both divorced, met socially and exchanged email, phone calls and text messages") was a senior executive at the company, and although he shared the information with Sharpe he allegedly

emphasized that the information was extremely sensitive and that she could not repeat it to anybody. Sharpe confirmed that she knew the information was confidential. Sharpe then asked if she or her parents could buy Renovis stock and he answered "of course not."

Immediately after these conversations, Sharpe spoke to her father, Leclerc, and shared the information she had just learned about the Renovis trial results. Right after his phone call with his daughter, Leclerc called his broker to discuss raising $50,000 in one day for an investment.

Another lowlight of this case is that the allegedly insider-trading father, Leclerc, "asked his broker whether a company could identify him as a purchaser of its stock, and was told that the company could not."

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Tuesday, April 25, 2006

Still More on Internal Investigations--The "Whitewash"

The WSJ Law Blog tips us to this article in today's WSJ about a looming trial in the Enron case against law firm Vinson & Elkins that is now set for October 2006. The article notes that the lawsuit alleges that V&E "defrauded Enron investors by structuring 'phony' transactions used to inflate revenue and hide debt."

Beyond that, however, the article discusses yet another internal investigation conducted by V&E that is now the subject of some scrutiny. Just last week we discussed here an article reporting the San Diego city attorney's intention to sue the law firm Vinson & Elkins for an internal investigation report that he says was a "whitewash" that failed to hold city officials fully accountable.

The WSJ describes testimony about another V&E internal investigation of Enron Corp. that is being scrutinized in the criminal trial of Ken Lay and Jeffrey Skilling, and whether or not it was--here's that word again-- a "whitewash":

Testimony about Vinson at the trial mostly has been prompted by questions from defense lawyers, who are trying to persuade the jury that accountants and lawyers fully vetted Enron's operations.

Vinson in 2001 conducted an investigation for Enron of complaints raised by Sherron Watkins, a finance executive who fretted in a letter to Mr. Lay that the company might "implode in a wave of accounting scandals." Vinson partner Max Hendrick III testified that the probe was "professional" but limited in scope. The inquiry cleared Enron of wrongdoing. Asked if it was a "whitewash," Mr. Hendrick testified that it wasn't.

The article adds that Bill Lerach, whose firm is lead counsel in the trial against Enron (and V&E),

says evidence in the criminal trial that shows that Vinson signed off on allegedly fraudulent transactions "will be useful in the civil suit." He has had a lawyer from his firm attending every day of the trial. His firm is Lerach Coughlin Stoia Geller Rudman & Robbins LLP.

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Friday, April 21, 2006

More on Insider Trading Bounty Hunters

William P. Barrett of Forbes has this article updating the SEC's seldom-used insider trading "bounty" program. The bounty program began in 1988, when Congress optimistically passed Section 21A(e) of the '34 Act, which authorizes the SEC, in its discretion, to award a bounty to a person who provides information leading to recovery of a civil penalty from an insider trader, a person who "tipped" information to an insider trader, or a person who directly or indirectly controls an insider trader. The bounty may be up to 10% of the civil penalty actually recovered in the SEC's action.

As discussed in this SLW post from December 2003, however, only three bounties had ever been awarded at that time, and only one known recipient existed: one "John L. Skipper," who received a check in the amount of $29,000 according to this SEC Litigation Release.

The Forbes article notes that an an additional $17,000 bounty was paid in 2005, and that the grand total for the four payments to date under the bounty program is now at a not-so-whopping $67,570.

According to SEC spokesman John J. Nester, the four payments since 1988 are as follows:

1989: $3,500
2002: $18,000
2002: $29,000 (to Mr. Skipper)
2005: $17,000

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Wednesday, April 19, 2006

More on the Perils of Conducting the Internal Investigation

Not too long ago, a lawyer or firm getting hired to conduct an internal investigation into a company's possible securities law violations was the beginning of a usually lengthy, no-lose gravy train. Get a team together, map out all the documents and witnesses from which to gather information, bill heavily while collecting all of this information (and then while writing up a brilliant report), collect a big check, and move on.

Lately, however, some downside seems to be emerging in the internal investigation business. We first observed in November 2004 that prosecutors in the Computer Associates criminal case charged the former CEO of the company with obstruction of justice based on statements he made not to any government official but rather to the company's outside counsel (Wachtell Lipton), which was conducting an internal investigation of the matter. In a sense, the prosecutors' "deputized" the lawyers conducting the internal investigation by taking the position that a false statement made to an outside lawyer conducting an internal investigation is obstruction of justice when the outside lawyer is doing the investigation with the purpose of giving that information to the government.

Next, we discussed in this post the SEC's reported Wells call threatening enforcement action against a lawyer who conducted an internal investigation into possible financial fraud at Endocare. The underlying article did not say exactly what the lawyer did to provoke the SEC, but the company had earlier issued a press release last year saying the probe the lawyer conducted found no "intentional wrongdoing by management.'' The article referenced a speech by then SEC Enforcement Director Stephen Cutler, in which he stated that he was "concerned'' that some lawyers hired to investigate signs of fraud might have helped cover it up.

As also discussed in the article, one former SEC assistant enforcement director noted that if the SEC proceeded with this case, other lawyers might think very hard before taking on company investigations and "there will be some firms who look at this and say we will never do another...." Notably, the SEC does not appear to have proceeded with any lawsuit against the lawyer in the nearly year and a half since the Wells call was reported.

Most recently, an article by Lynn Hume in today's Bond Buyer states that the San Diego city attorney intends to sue the law firm Vinson & Elkins for an internal investigation report that he says was a "whitewash" that failed to hold city officials fully accountable. The city attorney claims that V&E was part of an effort to "help the people that were under investigation escape responsibility because that's where the money was."

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Wednesday, April 12, 2006

Business Week: The Next Frontier

If you've read this blog for any period of time you know of our three-year losing battle to rid the world of the menace to society known as "Insider Trading Based on Advance Copies of Business Week." As I put it back on Thanksgiving Day in this post entitled "All Roads Lead Back to Business Week,"

Trading on advance copies of Business Week--the doomed insider trading scheme that I have blogged about since August 2003. The "legendarily unsuccessful" tactic that I listed as #1 on my original "Do Not Use" list for securities fraudsters, and which I most recently labeled the "gold standard of what not to do." It's back again, when and where I least expected it.

Like a Whack-a-Mole, this scourge is back. Again. Yesterday, the SEC announced that it had named 5 new defendants in a BW-related case (the WSJ Law Blog has this post with links to a separate criminal complaint and a video press conference).

Incredibly, this case takes the BW saga to a new level: The ringleaders of this scheme actually infiltrated one the magazine's printing plants by persuading two individuals to obtain jobs at the plant that printed BW!! According to the SEC,

Plotkin and Pajcin also infiltrated one of the printing plants utilized by BusinessWeek, repeatedly obtaining advance copies of the market-moving Inside Wall Street (IWS) column in BusinessWeek. Plotkin and Pajcin recruited two individuals — first, Nickolaus Shuster, and later Juan C. Renteria, Jr. — to obtain employment at Quad/Graphics, Inc., one of four printing plants that print BusinessWeek magazine, for the sole purpose of stealing copies of upcoming editions of the magazine, and calling Plotkin or Pajcin to read them key portions of IWS — a widely-read column in the magazine that generally moves the price of the securities of companies mentioned in it — prior to the time the column became available to the public.

Wow.

I've entitled this post the "Next Frontier" as opposed to the "Final Frontier" because there must be some still-unused tactic out there that could be used to steal information from BW. For instance, the next case could revolve around defendants who fund a high school student's education at journalism school in order to help him get a job at Business Week writing the Inside Wall Street column.

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Wednesday, April 5, 2006

The Truth is Out There, Part II

Back in 2004, SLW wrote about the mysterious disappearance of FAQ 19--the securities equivalent of "Area 51"--from the SEC's website. FAQ 19, of course, was the following playful (?) Q&A about a time-traveling insider trader that read as follows:

"Question: Is the Andrew Carlssin case for real?

Your Answer: Many investors and other members of the public have asked us about news reports concerning the Andrew Carlssin, an alleged "time-traveler" who supposedly made a fortune in the stock market by trading in the year 2003 based on information gleaned from his travels to the future. The reports appear to be a hoax. The SEC has not, in fact, brought an enforcement action against any such person."

FAQ 19 vanished from the SEC's website at some point in 2004 (but can be seen here on this cached version if you are patient enough to let it load), prompting me to joke in this post that "Clearly something is going on. If the SEC has now confirmed the existence of this time-traveling insider trader, then doggone it, just tell us. We can handle it. I think." (That post from November 2004, in turn, prompted MANY people interested in time-travel to visit the SLW blog then and to this day, helping me to realize that the number of people interested in time-travel exceeds the number of people interested in securities litigation).

All of this is a long-winded way of saying that the SEC should not shut down its time-travel enforcement program just yet. According to this article, a professor at U. Conn. has designed a time machine and he says that, after he completes about a decade's-worth of experiments "and depending on breakthroughs, technology, and funding, I believe that human time travel could happen this century.”

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Tuesday, March 28, 2006

Bill May Prohibit Insider Trading by Congress

Should members of the U.S. Congress be permitted to trade securities based on inside information learned as part of their jobs in the "halls of Congress?"

The Law Blog notes in this post that, according to this article in the WSJ,

Two Democrat lawmakers plan to introduce today a bill that would block trading on such inside information. Current securities law and congressional ethics rules don't prohibit lawmakers or their staff members from buying and selling securities based on information learned in the halls of Congress.

The article further states:

Rep. Louise Slaughter, the New York Democrat who wrote the bill, said: "Top leadership aides know what is happening before anyone else. The potential for abuse there is incredible."

Notably, the article does not mention a 2004 academic study that indicated that there appears to be much more than just "potential" for abuse going on already. As discussed in this November 2004 post on SLW and an earlier post by Professor Bainbridge,

a recent study by Alan J. Ziobrowski of Georgia State University and colleagues at three other schools showed that during the 1990s, senators' stock picks (which must be publicly disclosed periodically) beat the market by 12 percentage points a year on average. By comparison, corporate insiders only beat the market by about six percentage points a year, and U.S. households underperformed the market by 1.4 percentage points a year on average.

As reported in this article in Sunday's Philadelphia Inquirer, the authors of the study conclude that these results "suggest that senators are trading stock based on information that is unavailable to the public, thereby using their unique position to increase their personal wealth...." The study adds that it is as if "senators knew appropriate times to both buy and sell their common stock." The article quotes Ziobrowski as stating in a recent interview that "there is cheating going on, at a 99 percent level of confidence."

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Monday, March 27, 2006

Lunch Police

The SEC Lunch Police is ramping up its operations. If they so much as see a ham sandwich being dangled out there, watch out.

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Friday, March 3, 2006

The End of the "Rock Star" CFO

Brooke Masters of The Washington Post has this great article observing that the "age of the rock star chief financial officer is over." The article states that while in the 1990s, CFOs "won praise and publicity for finding creative ways to massage their companies' finances to improve the bottom line and 'create shareholder value,'" today "corporate boards and institutional investors are inclined to value a straight-shooter with expertise in accounting who plays more of a supporting role."

The article also points out that of the 28 recipients of CFO Magazine's "Excellence Awards" between 1998 and 2000, two of the winners are in prison (WorldCom's Scott Sullivan and Tyco International's Mark Swartz), one is fighting an SEC insider trading case (David Willey, formerly of Capital One Financial Corp) and Enron's Andrew Fastow, the best known of all of them, has already pleaded guilty to conspiracy charges and is scheduled to testify soon in the ongoing case against Jeffrey Skilling and Ken Lay.

The article also wryly notes that "[n]ot surprisingly, CFO Magazine has given up the practice of giving Excellence Awards. "

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The End of the "Rock Star" CFO

The article also wryly notes that "[n]ot surprisingly, CFO magazine has given up the practice of giving Excellence Awards. "

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Tuesday, February 28, 2006

More on the SEC/Qwest Settlement Process

Bailey Somers of a relatively new publication called Securities Law 360 has this article entitled "SEC Bypasses Fair Fund in Favor of Claims Administrator" about the SEC's proposal to distribute its $250 million Qwest settlement through the claims administration process in a parallel securities class action. I previously discussed this proposal here. As stated in the article,

This is not the first time the SEC has looked to a claims administrator to distribute settlement funds.

In February 2005, the agency outsourced the distribution of a $25 million settlement with Lucent Technologies. In 2004, the agency combined a $150 million settlement with Bristol-Myers Squibb with the $300 million settlement reached in the private class action litigation with the company.

The instances in which an outside distribution fund has been used have greatly benefited investors, according to Bruce Carton, Vice President of Securities Class Action Services at Institutional Shareholder Services, Inc.

“I think it’s a great way to go for the SEC,” Carton said. “I certainly hope we continue to see these outside funds used. We file claims for institutions, and it’s difficult and challenging when you have the WorldCom class action settlement on one hand and the WorldCom SEC settlement on the other. To the extent that those can be combined, it makes investors’ lives much, much easier. It also eliminates the need for the SEC to become a claims administrator.”

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Monday, February 27, 2006

Dusting Off Some of the SEC's Web Archives

I recently was going through the oldest Litigation Releases available on the SEC website (1995 and 1996) and noticed a few things I thought were interesting:

1. According to the Note at the bottom of the list of 1995 releases, the SEC's website was born on September 28, 1995. This occurred during my time at the SEC in the Division of Enforcement but, oddly enough, I have no memory of the website being rolled out. I do recall that for a long time--probably extending well into 1996--we did not have access to the Internet at our desks, but rather needed to go into a separate "Ticker Room" where a computer with Internet access was available alongside a Bloomberg machine and a Dow Jones News hook-up.

2. On November 15, 1995, less than two months after the SEC's website went live, the SEC issued what appears to be its first Litigation Release referencing the Internet. I particularly like the old-school capitalization ("InterNet") used in the Release and the fact that a detailed explanation of the Internet was very much necessary back then:

As detailed in the Complaint, beginning in or about May 1995 through the present, Frye has posted numerous messages on the InterNet, a decentralized web of computers, accessible to millions of potential investors across the country and world-wide, in which Frye has solicited funds from investors.

3. Although the SEC appears to have abandoned this practice today (see my post asking why here), there was a time that the SEC issued Litigation Releases about both its victories and its losses. In this Litigation Release from December 1996, for instance, the SEC announced that a federal court in Texas had granted a defendant's motion for summary judgment in an insider trading case. The Release candidly states that the court "ruled that the earnings information in Mr. Hoover's possession was not material. On October 3, 1995, the Court entered a Final Judgment in favor of Mr. Hoover."

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Friday, February 17, 2006

Want to Help Run the SEC's Enforcement Division?

Hey you--do you want to help run the SEC's Division of Enforcement in the high-level position of Associate Director? Well, today's your last day to apply, so crank that resume out quickly. And tell a friend, because there are two spots open.

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Thursday, February 9, 2006

AIG Settles With Regulators for $1.6 Billion

Alistair Barr of MarketWatch has this article on AIG's mammoth $1.6 billion settlement with the SEC, New York Attorney General Eliot Spitzer and the New York State Insurance Department. According to the article, half of this amount will be distributed to investors through the SEC.

The article observes that the SEC settlement

won't stop investors from continuing to pursue their own claims, said Anthony Sabino, a business law professor at St. John's University's Peter J. Tobin College of Business.

"There are a ton of investor lawsuits against AIG," he said. "Unless these parties have specifically agreed to stop pursuing their claims, today's settlement won't help."

Private securities litigation settlements often end up being larger than those negotiated with regulators, said Bruce Carton, a vice president at ISS' Securities Class Action Services, which tracks legal settlements. (See tables below).

For example, WorldCom settled with the Securities and Exchange Commission for $750 million, but securities class action settlements have topped $6 billion, according to data from Securities Class Action Services.

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Thursday, February 2, 2006

Aunt Betty: Not Much Smarter Than Most

Be my valentine
by: auntbetty1234

Happy Valentine’s Day to my Nephew Smitmie. He’ll be 12 ½ on thursday. When I take him shopping, he just wants to buy-out everything in the store. He’s so cute and much smarter than most.

Love,
Aunt Betty

You'd never guess it from its face, but the bizarre message above actually was the basis for the SEC"s insider trading case filed and settled today against one William A. Day, a.k.a. "auntbetty1234."

The SEC's litigation release explains that on February 14, 2002, London, England-based Smith & Nephew, plc. and Oratec Interventions, Inc. publicly announced that they had entered into an agreement for Smith & Nephew to acquire all outstanding shares of Oratec through a tender offer of $12.50 per share. The SEC says that on February 13, 2002, approximately twenty-four hours before the acquisition was publicly announced, Day made the anonymous posting above using the online alias “auntbetty1234” on an internet message board dedicated to Oratec, the contents of which revealed that he possessed material, nonpublic information regarding the tender offer, including:

the name of the acquiring company ("Nephew Smitmie");
the price per share ("He’ll be 12 ½");
the tender offer structure ("buy-out ");
and the offer announcement date ("Happy Valentine’s Day").

"Much smarter than most?" I don't think so.

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CFO Magazine: "Penalty Box"

Alix Nyberg Stuart of CFO Magazine has this insightful article entitled "Penalty Box" on the collection and distribution of Fair Funds settlements by the SEC's Division of Enforcement. Some highlights/comments:

"All told, the SEC fined companies a combined $3.1 billion in its fiscal 2005, up from $313 million in 2003, the first year it started tracking such numbers."
"...only $302 million of the $1.6 billion in fines that the SEC collected last year went to investors."
"Between 1995 and 2001, [the SEC] collected only 14 percent of the $3 billion in fines levied during those six years, according to a 2002 Government Accountability Office report. After hiring some 20 full- and part-time staff and implementing a new software system, however, the agency was able to recover more than 70 percent in 2004 and 2005. [Comment: This is no doubt true but the reason for this success may be that it is simply easier to collect money, in huge chunks, from corporations in the big financial fraud cases that the SEC has settled recently].
"...it may be too soon to say the system is broken. In contrast to private security settlements, SEC settlements do not include deductions for plaintiffs' lawyers fees, which generally consume about one-third of any windfall in private cases. Plus, in the last two to three years, there has been a "big focus on the fact that a lot of money has been left on the table," says Bruce Carton, securities class-action services vice president at Institutional Shareholder Services. This includes class-action lawsuits against 44 mutual-fund companies and investment advisers for their alleged failure to collect the recompense from private suits." [Comment: Brilliant!]
"At least for now, a company that gets caught in the crosshairs of the SEC should brace itself for a substantial fine. "I don't think anyone's going to be made whole by them," says Carton, "but anyone who had a meaningful number of shares in a company is glad to get the money back." [Comment: See Comment #4 above].

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Friday, January 13, 2006

The Vagaries of the Insider Trading Laws

Back in August 2004, commenting on the Martha Stewart developments, I wrote an article (republished in this post) on the "Elusive Law of Insider Trading" that stated:

Although we may feel that we will know insider trading when we see it, case after case shows that this simply is not so. Indeed, after reviewing the exact same set of facts, federal prosecutors elected not to charge Ms. Stewart with the crime of insider trading while the Securities and Exchange Commission (SEC) came to the opposite conclusion and filed a civil lawsuit against her alleging insider trading.

***

It can be argued that the continued vagueness of the insider trading laws serves the useful purpose of deterring all trading based on nonpublic information, whether it is technically "legal" or not. While vague laws may have that desired effect, a fairer and more direct use of the law to achieve society's goals in this area would be for Congress to identify what is legal insider trading and what is not, and to articulate the distinction in a coherent statute.

Cases like this one brought and settled yesterday by the SEC against Thomas Bucknum, the former General Counsel of publicly traded Biogen Idec Inc., only reinforce my belief that the law of insider trading is in many instances elusive, if not unknowable. A short recap of the facts of the Bucknum case (borrowed from this post today by the WSJ Law Blog) is as follows:

Bucknum called his broker at 8:45 a.m. and placed an order to exercise options to purchase 87,900 shares and then sell them. [Note: It also appears to be a critical fact that "the broker understood from that conversation that Bucknum wanted to sell the shares at a price of $68 per share or better."]
Because Bucknum was an officer of the Biogen, his brokers needed to get clearance from the company in order before executing Bucknum’s order.
Around noon, Bucknum learned that a patient taking Tysabri had been diagnosed with fatal brain disease and that another patient may have contracted the illness.
About 1:30 p.m., Bucknum called his broker’s associate, who told him he had received clearance from Biogen, and Bucknum told him to sell the stock. [Note: The associate also told Bucknum the stock was trading "near $68."]
The shares were sold around 2:00 p.m. for a $1.9 million profit
Ten days later, Biogen and its partner Elan said they were pulling the drug; shares fell 43%.

So to be clear: Before becoming aware of the bad news, Bucknum had, according to the SEC's complaint, instructed his broker to sell the stock in his account at a price of $68 or better. This would seem to fall squarely under Rule 10b5-1, which states that

a person's purchase or sale is not "on the basis of" material nonpublic information if the person making the purchase or sale demonstrates that:

Before becoming aware of the information, the person had ... (2) Instructed another person to purchase or sell the security for the instructing person's account....

As far as I can tell, the twist here--and Bucknum's downfall--is that at the time of the 1:30 p.m. call, the stock was not trading at at a price of $68 or better. Rather, after Bucknum was told it was "near $68," he then re-instructed the broker to sell the shares at that lower market price (which turned out to be $67.12). I suppose this means that his initial instruction to sell the stock cannot be used to protect him from charges of later trading on the basis of material nonpublic information because that initial instruction could not be carried out due to a market price below $68.

The bottom line appears to be that had the price of Biogen stock been about a buck higher on that fateful day, or had Bucknum initially placed a market order to sell the shares as opposed to a limit order, Bucknum's trades would have been legal under Rule 10b5-1. But really, who knows what the SEC would do in such a case? Even if the facts were as just described and Rule 10b5-1 did technically apply, would anyone trying to obey the law have the certainty to go through with that trade? As I said with respect to Martha Stewart, the effect of this ambiguity is to deter all trading based on nonpublic information, whether it is technically "legal" or not.

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Wednesday, January 4, 2006

Revisiting the Seventh Circle of Lawyer Hell

Way back in December 2003 I posted about the Seventh Circle of Document Review Hell in the context of a nasty discovery dispute in the Kerkorian-DaimlerChrysler trial:

Can it get much worse for the poor souls who were forced to testify about the failure to produce these documents? Is this not the Seventh Circle of Document Review Hell? I suggest the Circles run something like this:

Circle 1. Reviewing corporate M&A documents for litigation. Period.
Circle 2. Reviewing millions of corporate M&A documents for litigation, over a long period of time.
Circle 3. Reviewing millions of corporate M&A documents for litigation, over a long period of time, for a multi-billion dollar case where a momentary lapse in concentration or judgment can have high dollar repercussions and be highly "career limiting."
Circle 4. Same as Circle 3, but also, against staggering odds, the multi-billion dollar case goes to trial and receives international attention.
Circle 5. Same as Circle 4, but also learning in the middle of trial that 60+ pages of "explosive" documents were not produced by your side.
Circle 6. Same as Circle 5, but also learning that the Court has actually suspended the multi-billion dollar trial to hold a special adversarial hearing to determine exactly why the documents were not produced.

and finally...

Circle 7. Same as Circle 6, but also learning that you must take the stand to explain, and be aggressively cross-examined on, why the documents were not produced.

Well, if it isn't in the Seventh Circle it's darn close when, as reported earlier today, you are an associate in a big law firm and after working on an acquisition and discussing it in confidence with your live-in boyfriend, you see your boyfriend's name "on a list of individuals who had traded in the stock which had been sent from the NASD as part of its routine market surveillance operations."

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Thursday, December 22, 2005

The Name Game: SEC's Lawrence West Departing for Latham and Watkins

The SEC announced yesterday that Division of Enforcement Associate Director Lawrence West is leaving the Commission to become a partner in the D.C. office of the law firm Latham & Watkins. West notably oversaw the SEC's investigation and case against WorldCom.

At Securities Litigation Watch, we pride ourself on spotting trends and we think we're on to one here. No, not Enforcement officials leaving for private practice--that's way too easy. What we think we're seeing here is a trend of Enforcement officials leaving for private practice based solely on the name of the law firm.

Consider: Former Director of Enforcement Stephen Cutler went to Wilmer Cutler in the fall of 2005. Now just a few months later we have Lawrence West going to Latham & Watkins (LW.com) (where with any luck his new email address will be lw@lw.com).

So where does that leave the remaining top Enforcement officials? Where might they be looking if they ever wish to return to private practice? The early line based on this trend:

Walter Ricciardi (Deputy Dir.): Wiley Rein
Peter Bresnan (Deputy Dir.): Patton Boggs
Paul Berger (Assoc. Dir. ): Patton Boggs; maybe plaintiffs' law firm Berger & Montague.
Scott Friestad (Assoc. Dir.): Fried Frank; maybe plaintiffs' law firm Scott + Scott.
Toni Chion (Assoc. Dir.): Thompson Coburn; maybe Alliance Capital (Ticker Symbol: AC) if she prefers a match for her full name, Antonia.

The toughest to find a suitably matching law firm for seems to be Director of Enforcement Linda Chatman Thomsen. But what about going in-house at the Lincoln Center Theater (LCT.org)? Or possibly General Counsel of Living Cell Technologies (LCT.com.au), "a fast growing public bioscience company listed on the Australian Stock Exchange?"

We'll be watching this trend closely.

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Monday, December 19, 2005

Third Base!

Costello: Look, you gotta outfield?
Abbott: Sure.
Costello: The left fielder's name?
Abbott: Why.
Costello: I just thought I'd ask you.
Abbott: Well, I just thought I'd tell ya.
Costello: Then tell me who's playing left field.
Abbott: Who's playing first.
Costello: I'm not... stay out of the infield! I want to know what's the guy's name in left field?
Abbott: No, What is on second.
Costello: I'm not asking you who's on second.
Abbott: Who's on first!
Costello: I don't know.
Abbott & Costello Together: Third base!

I've jokingly complained here before about foreign countries such as the Philippines, Thailand, Bangladesh, and Nigeria which refer to their governments' securities regulator as the "Securities and Exchange Commission" or the "SEC," maliciously complicating my efforts to generate relevant, key-word generated news alerts about the U.S. Securities and Exchange Commission.

Well, the other entity that tries hard to mess with my news aggregating capabilities is the Southeastern Conference, an athletic conference for NCAA teams that, of course, has the acronym SEC. (To make this culprit even more troublesome, the "athletic SEC," like its securities law-related namesake, also has (1) a "commissioner"; (2) "officials"; and (3) occasionally conducts "investigations; and (4) involves "conferences."

For years I have dutifully ignored or skimmed past all the Southeastern Conference news stories that pour into the Securities Litigation Watch supercomputers ... until now. Unexpectedly, these two SECs have collided. As discussed in this article,

SEC basketball official Travis Correll of Atlanta has resigned in wake of a civil action filed against him by the U.S. Securities and Exchange Commission.

Correll was listed in a civil action filed by the commission on Dec. 7 in the United States District Court for the Eastern District of Texas. The suit alleges Correll and others ran a fraudulent investment scheme, which has raised more than $36 million since July 2004, according to the suit.

"He (Correll) has resigned and will no longer officiate in the Southeastern Conference," SEC commissioner Mike Slive said Tuesday evening. "If he had not resigned, he would have been prevented from officiating in this league."

To recap, we have the SEC commissioner commenting on the conduct of an SEC official relating to a civil action by the SEC, which was announced by the commission and SEC officials here.

All I can say to that is, "Third base!!"

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Thursday, December 15, 2005

SEC Guidance on Corporate Penalties Coming Soon

Reuters reports that the SEC's commissioners have devoted significant amounts of time and discussion recently to the subject of corporate penalties, an issue that divided past SEC commissioners.

"We've been spending a great deal of time on it," [SEC Chairman Christopher] Cox told reporters after an SEC meeting. "It's helped all of us form our own and perfect our own views. The next step is, to the extent possible, to formalize that understanding in the form of guidance."

According to the report, Cox added that the ongoing discussion is meant "to demystify the process both internally for our professional staff in enforcement around the country, and externally for the regulated community that seeks to understand how the commission operates" and that the SEC may ultimately provide guidance in the form of case decisions or an interpretive release.

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Wednesday, December 14, 2005

SEC May Again Pursue Outside Directors

This is not a first--I posted here about a similar case back in August 2003--but it is highly unusual for the SEC to go after a public company's outside directors for financial shenanigans or fraud at the company. Yet that is what the SEC is reportedly doing with respect to three high-profile outside directors (two current, one former) of Hollinger International Inc. who served on the company's audit committee. According to a Bloomberg report discussed here,

the SEC has sent Wells notices to James Thompson, Richard Burt, and Marie-Josee Kravis. Thompson, the chairman of law firm Winston & Strawn, had served as Hollinger's audit committee chairman. He still serves on the board, as does Burt, a former U.S. ambassador to Germany. Kravis, a director of Ford Motor Co. since 1995 (and the wife of buyout icon Henry Kravis), resigned from the Hollinger board in 2003.

The article states that the Hollinger audit committee approved more than $275 million in payments to former Hollinger chairman Conrad Black, his business partners, and to Ravelston Corp., a separate company they controlled.

The report of these Wells calls comes almost simultaneously with comments made yesterday by the SEC's Peter Bresnan, Deputy Director of Enforcement, that the Enforcement Division would be recommending that the SEC bring actions against against outside directors in certain cases currently on the agency's calendar. According to BNA's Securities Law Daily, Bresnan stated on an ABA webcast yesterday that the Enforcement Division

will pursue cases in which the outside director "has taken no care in ensuring the accuracy of the statement [he or she] make[s]." He added, "When they sign something, it has to have some basis."

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Friday, December 2, 2005

Feel the Causticity

"Caus·tic" (kô'stĭk) adj.: Corrosive and bitingly trenchant; cutting.

BNA reports that at a D.C. Bar luncheon program held yesterday, SEC Chief Litigation Counsel Mark Kreitman remarked that the recent decision in Rockies Fund Inc. v. SEC (discussed in this guest post) was a "caustic" opinion. He added that "[D.C. Circuit Judge David B.] Sentelle doesn't like the commission, and everybody knows that."

According to BNA, Kreitman further stated that

"It sends a message. I don't want to trivialize it." He noted that the court found that "the commission had failed to articulate substantial evidence in support of its decision." The most immediate impact of the decision at the commission, Kreitman said, is that the agency will take "greater care in articulating reasons for the remedies" it imposes.

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Wednesday, November 30, 2005

Guest Post: "Court Rejects SEC's Imposition of Civil Penalties against Directors in Early Test of SOX"

Guest Post by Nicolas Morgan of DLA Piper Rudnick Gray Cary:

If the SEC thought it would gain home court advantage by asking Congress to allow monetary penalties to be awarded in administrative proceedings under Sarbanes-Oxley, the DC Circuit has set the record straight. On November 15, 2005, in The Rockies Fund v. SEC, the DC Circuit scolded the SEC for arbitrarily and capriciously awarding "the harshest available penalties" against the Funds' directors without any showing that their conduct "created a significant risk of substantial loss to others."

The SEC accused the Fund of mischaracterizing and overvaluing certain holdings on its SEC filings, but the SEC failed to demonstrate in the administrative proceeding that such conduct put any investors at risk of loss. Sarbanes-Oxley permitted the SEC to seek civil penalties in an administrative proceeding presided over by an SEC administrative law judge rather than in a federal court action. However, the DC Circuit confirmed that the SEC must make the same evidentiary showing to obtain civil penalties no matter which forum the SEC brings its enforcement action in.

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A Question About the SEC's Litigation Releases

Why is that when the SEC wins a litigated case it issues a Litigation Release about the victory and posts it on its website (see this example), but when the SEC loses a case (like this one yesterday against Richard "Bulletproof" Scrushy)... nothing?

I think that question raises another interesting question: What is the purpose of the SEC's Litigation Releases and of the Litigation Release page of the SEC's website? Are they supposed to be informational? If so, then you would think that all court decisions, both favorable and unfavorable, would be posted.

Or are they intended to be promotional for the SEC's Enforcement program? If so, then perhaps the SEC should make it clear on the website that its lengthy list of Litigation Releases is not a complete list and add something to the effect that "The Litigation Releases listed below are limited to cases with outcomes deemed favorable to the SEC."

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Monday, November 28, 2005

The Business Week Dilemma

What in the world can be done about the recurring problem of people trying to trade on advance copies of Business Week? See the bottom of this post if you need the history, but is it fair to say that the "Inside Wall Street" column in Business Week has wreaked more insider trading havoc than any other information source in the world? To my knowledge, the lengthy list of "Business Week defendants" includes someone from just about every point in the distribution chain-- printing, distribution, U.S. postal delivery and so on. It is the catnip of the securities enforcement world.

Clearly, humans are incapable of resisting the lure of trading on advance copies of Business Week. So now what? What level of security will protect us from this scourge? Should Business Week be published and distributed out of Fort Knox? Should it receive the same Code Red-level of security as the orange juice "Crop Report" in Trading Places? Hannibal Lechter-level security?

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Thursday, November 24, 2005

All Roads Lead Back to Business Week

Trust me when I tell you that almost nothing would prompt me to blog from home, on Thanksgiving Day, but how can I possibly resist posting about this development in the Sonja Anticevic case that ties together about 10 past posts? Answer--I can't.

Remember the trader who followed my handy 5-point plan to getting oneself sued by the SEC by, among other things, buying massive quantities of out-of-the money call options in advance of the Reebok merger?

And remember how the trading wound up being in the account of a 63-year-old Croatian woman named Sonja Anticevic, a retired tailor/cleaning lady living on a monthly pension of 1,600 kuna ($263) who claimed she had "never bought a stock and I have no idea how that works" (which prompted speculation that just maybe Anticevic's 25-year-old nephew, a broker in New York, may have played some role....)?

Well, according to this article, the FBI has now arrested David Pajcin, Anticevic's nephew, and accused him of insider trading. Yes, you say, we all saw that coming. So what? Why post this on Thanksgiving, Carton?

Well, let me ask you--did you see this coming? According to the article, Pajcin is accused of committing insider trading by "obtaining advance access to Business Week's Inside Wall Street column and buying 10 separate stocks ahead of the column's publication."

That's right. Trading on advance copies of Business Week--the doomed insider trading scheme that I have blogged about since August 2003. The "legendarily unsuccessful" tactic that I listed as #1 on my original "Do Not Use" list for securities fraudsters, and which I most recently labeled the "gold standard of what not to do." It's back again, when and where I least expected it.

Now if we just can find some way to link all of this up with the Estonian "spider" hackers....

Happy Thanksgiving to all.

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Tuesday, November 22, 2005

Cox Seeking to End SEC's Delay in Returning Fair Funds to Investors

Following this GAO report that showed that although the SEC had collected $4.8 billion through its enforcement efforts under the Fair Funds provision of Sarbanes-Oxley, it had returned just $60 million of that amount to investors, at least two members of Congress reportedly called for congressional hearings to be held on the issue of this lag (see this post). I assume that Rep. John Dingell was one of those congressmen because this article in today's NY Daily News states that

Securities and Exchange Commission chairman Christopher Cox said he's determined to simplify and speed the distribution of money to investors hurt by corporate misconduct.

"I am attacking this problem head-on," Cox wrote in a letter to Rep. John Dingell (D-Mich.) early last week.

"The process of returning money to injured investors has, in my view, been rendered needlessly complex," Cox added.

If anyone has a copy of Chairman Cox's letter, or has any information on the SEC's efforts to simplify this process, please send it to me and I will post it here.

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Thursday, November 17, 2005

Total Consciousness for Merchant Capital

Add Merchant Capital to the list of recipients of the Carl Spackler Total Consciousness Award ("And he says, 'Oh, uh, there won't be any money, but when you die, on your deathbed, you will receive total consciousness.' So I got that goin' for me, which is nice"). It joins past winners such as Arthur Andersen and Kirk Kerkorian.

According to this article, the SEC sued Merchant for fraud in 2002, alleging that partnership interests in a company Merchant formed to buy and collect on credit-card debts were "securities" and that Merchant, therefore, was selling "unregistered securities." In mid-2003, however, the federal court in Atlanta denied the SEC's request for an injunction and concluded that the interests weren't securities under federal law. Last week, the article states, the court further concluded that Merchant had properly disclosed risks to investors and its principals acted "in good faith" at all times.

Unfortunately, Merchant's victory appears to have come too late to do it any good--Merchant says it is closing its doors at the end of year, primarily because

"large national issuers of credit weren't willing to do business with the firm after three years of bad publicity linked to the SEC case.

Company principals Steven C. Wyer and Kurt Beasley said banks were less willing to sell their firm credit-card debt be-cause of the long court battle, and that hurt returns for investors."

On the bright side, however, on its deathbed (which appears to be now, actually), Merchant will receive ... well, you know.

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Wednesday, November 2, 2005

More on the "Clever and Pernicious" Hacking

One group that is not so happy about the SEC's press release yesterday concerning an Estonian firm's alleged success in hacking into Business Wire to steal press releases before they became public is ... you guessed it... Business Wire.

Business Wire issued its own press release yesterday stating that its news releases had not been accessed prior to distribution and that "some of the SEC statements in its complaint have been misinterpreted." Business Wire was even more direct in comments made to Reuters in this article, stating that the SEC's statement contained "blatant inaccuracies" and that "at no time did anyone access confidential Business Wire press releases." Rather, Business Wire stated, certain individuals gained access to a "screen shot of limited background information" that did not include the content of news releases.

The Reuters article includes a response from the SEC's Associate District Administrator David Horowitz, who disagreed with Business Wire. Horowitz stated that "the defendants saw enough to know the purpose, substance and time of the release."

While the SEC complaint does not allege that the defendants saw the complete press releases, "there is no question that their computers were infiltrated," Horowitz said.

"They made investment decisions based on what they were able to glean from Business Wire's secure site," Horowitz said. "Whatever was on that screen shot led them to make a trading decision that was almost always correct. They did it 360 times at least with 200 different companies at least."

After blasting the SEC for the "blatant inaccuracies" in its press release, Business Wire made sure to add that "we were of enormous help in assisting the SEC crack this case."

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Tuesday, November 1, 2005

SEC Instant Classic #2: "Clever and Pernicious" Hacking

As with SEC Instant Classic #1, today's Instant Classic is so original that even the SEC had to compliment the bad guys' effort (assuming "clever and pernicious" is a compliment).

According to this SEC press release issued today, the SEC filed an emergency action today against an Estonian financial services firm and two of its employees for conducting an alleged fraudulent scheme "involving the electronic theft and trading in advance of more than 360 confidential press releases issued by more than 200 U.S. public companies," resulting in at least $7.8 million in illegal trading profits.

How did they supposedly steal 360 confidential press releases? How did they earn the "clever and pernicious" description from the SEC?

According to the SEC,

in June 2004, [the Estonian firm] became a client of Business Wire for the sole purpose of gaining access to Business Wire's secure client website. Once defendants had access, they surreptitiously utilized a software program, a so-called "spider" program, which provided unauthorized access to confidential information contained in impending nonpublic press releases of other Business Wire clients, including the expected time of issuance.

The complaint further alleges that the information fraudulently stolen by the defendants has allowed them to strategically time their trades around the public release of news involving, among other things, mergers, earnings, and regulatory actions. Using several U.S. brokerage accounts, the defendants have bought long or sold short the stocks of the companies whose confidential press release information they have stolen, and purchased options to increase their profits.

I'd love to know the story behind how the SEC finally caught these guys. However they did it, kudos to the SEC for figuring this one out.

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Friday, October 28, 2005

SEC Names Two Deputy Directors in Enforcement, Creates Two New Vacancies

The SEC announced yesterday that it had named Walter G. Ricciardi and Peter H. Bresnan as Deputy Directors of the Division of Enforcement. Prior to this promotion, Ricciardi was the District Administrator of the Commission's Boston District Office and Bresnan was an Associate Director in the Division of Enforcement. Historically, the Enforcement Division has had just one Deputy but as Broc Romanek explains on his blog, "Enforcement now follows in the footsteps of Corp Fin in maintaining two deputy director positions, as the layers of management continue to grow along with the overall size of the SEC Staff."

Of course, we now must add the positions of District Administrator of the Commission's Boston District Office and Associate Director of Enforcement to our already lengthy list of high-profile job openings in the securities regulation world.

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Monday, October 24, 2005

Financial Services Roundtable Offers Reform Suggestions to SEC

A group called the Financial Services Roundtable has sponsored this report entitled "The Responsibility of the Securities and Exchange Commission For Efficiency, Competition and Capital Formation: Reforms for the First 1000 Days" (I may have missed it but I don't think they ever explain which "first 1000 days" they have in mind). In any event, the report offers a series of SEC-enforcement related reforms, many of which are quite insightful. I suggest checking them all out, but some of the highlights are:

If a matter becomes a formal or informal investigation, the SEC staff should notify the parties whether they are targets or simply sources of information. If in the course of an investigation a party that was originally identified as a target is no longer considered a target, the party should be promptly notified.
In connection with every Wells submission, the party making the submission should be advised of the specific facts that will be presented to the Commission by ENF.
Parties should not be asked to waive attorney-client privilege unless they assert advice of counsel as a defense—and even then sparingly, perhaps in cases where fraud may be involved.
The Commission should appoint an ombudsman with authority to investigate complaints by parties about violations by the staff of the procedures established by the Commission, or the Commission’s Inspector General should be given the authority to investigate public complaints about staff violations of the Commission’s rules for enforcement actions.

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Monday, October 17, 2005

SEC's Cox On Board with the Pre-Crime Concept

I've joked about the SEC's "Pre-Crime Unit" before and I'll probably continue to do so until someone educates me about what this group actually does. I'm referring, of course, to the SEC's "Office of Risk Assessment," which was created back in 2003 and given the mission, as I understand it, of predicting the future.

Since predicting the future is notoriously difficult, the SEC's chairmen have tended to use more flowery language when attempting to articulate the ORA's mission--"seeing around corners," "seeing over hills," and " seeing over the horizon" appear to be steady favorites.

Chairman Donaldson, for instance, stated in this March 2004 speech that the mission of the ORA is "to see over the hills and around the corners of problems that may be looming in the distance," which was consistent with his earlier statement that ORA was designed to "head off major problems before they occur."

Although there has been at least some speculation as to whether new Chairman Cox was a believer in the ORA concept, Cox seemed to put that to rest through comments he made on Sunday during his visit to China. Discussing the Refco case, Cox reportedly stated that

"There is always the possibility for broader effects from individual cases," Cox said. "That is why the SEC has a special unit for looking over the horizon and around the corner to discover whether or not such risks are materializing."

[Let me ask this question again: Is a position in ORA a good gig or bad gig? Can anyone really fault you even if you completely and utterly fail to see over hills and horizons, stop problems before they occur or otherwise fail to foresee the future?

According to this Dow Jones article, the ORA was "stuck in 'a holding pattern' for a while," but, according to Peter Derby, the SEC's former managing director for operations, finally "kicked in to gear this spring." "It's up and running, they're doing work," said Derby.

What kind of work? It's really not clear from the article. However, the results of whatever work is being done are apparently being kept in a "big binder":

The risk assessment office works with others at the SEC to identify key risks to U.S. markets and investors. For now, Fishkin keeps results in a big binder. He plans to replace it with a computer program that will display risks and show whether they are increasing or decreasing, offering regulators a kind of market radar.

The article notes that another key weapon in the ORA's arsenal is "reading":

Reading is another weapon in the office's arsenal. Fishkin said staffers regularly plow through stacks of academic reports and stock research looking for 'red flags' in market incentives, behaviors, products or procedures.

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Friday, October 14, 2005

It Goes Both Ways

In this post back in January I asked:

"Don't you hate it when your wife ignores your specific "entreaties" that she not share inside information about your publicly-traded company with her brother, and gets herself sued by the SEC?"

Well, in fairness to the women SLW readers out there I think I must now similarly ask:

Don't you hate it when you tell your husband during dinner conversation that the company by which you are employed intends to acquire another public company, and your husband--without your knowledge--then goes out and purchases stock in the public company to be acquired and gets himself sued by the SEC?

That is what is alleged in the SEC's settled insider trading case filed October 12 against Robert Petrosky. Also of note in that case is that the settlement only requires Mr. Petrosky, who profited $41,381.85 through his trading, to pay a civil penalty of $20,690.91 (equal to one-half of his profits) in addition to disgorging his trading profits. It is highly unusual for a defendant in a settled case to get off with anything less than a penalty equal to the amount of the illegal profits. The SEC noted in its announcement of the settlement, however, that

In accepting Petrosky's settlement, the Commission took into account his significant cooperation in the staff's investigation, including the fact that he voluntarily came forward, reported his trades, and worked promptly with the staff to resolve the matter.

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Thursday, October 13, 2005

SOX Opens the Door for More O&D Bars

For years, a threshold requirement for the SEC to obtain the equitable remedy of an officer and director bar against a defendant in one of its cases was an underlying fraud charge under Section 10(b). As stated in Section 21(d)(2) of the Exchange Act, a court has the authority to

prohibit, conditionally or unconditionally, and permanently or for such period of time as it shall determine, any person who violated section 10(b) or the rules or regulations thereunder....

So historically, in a case like the recently settled enforcement action against David Michael, former director and chair of the audit committee of Del Global Technologies Corp., Inc., in which the SEC charged Michael only with violations of the books and records, internal controls, and lying-to-auditors provisions of Section 13 of the Exchange Act, no O&D bar would have been possible.

The Sarbanes-Oxley Act of 2002 changed this, however. Section 305 of SOX amends Section 21(d) by adding a new Section 21(d)(5):

5. Equitable Relief

In any action or proceeding brought or instituted by the Commission under any provision of the securities laws, the Commission may seek, and any Federal court may grant, any equitable relief that may be appropriate or necessary for the benefit of investors.

The end result? Despite the absence of any fraud charge against David Michael, the SEC's settlement provided for a final judgment that, among other things, permanently bars Michael, pursuant to Exchange Act Section 21(d)(5), from serving as an officer or director of a public company.

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Mejia Named SEC Chief Litigation Counsel

I have been struck over the past few weeks by the unusual number of vacant, high-profile positions in the securities enforcement/regulation world. One of those was filled yesterday when the SEC announced that it has named Luis Mejia as its Chief Litigation Counsel supervising the Enforcement Division's nationwide litigation program. Mejia joined the Commission in November 1999 as Assistant Chief Litigation Counsel, and he succeeds David L. Kornblau, who left the Commission in August.

But consider the list of other vacant or soon-to-be vacant positions:

Public Company Accounting Oversight Board Chairman: William J. McDonough announced on September 23 that he will resign his position November 30 or when his successor is in place, whichever is sooner.
SEC Director of Division of Investment Management: Vacant
SEC Director of Market Regulation: Vacant
SEC Chief Accountant: Donald T. Nicolaisen announced on September 7 that he will leave the Commission this month to return to the private sector.
SEC District Administrator, Fort Worth District Office: Harold F. Degenhardt announced in August that would leave the Commission in September to become a partner in the Dallas office of the law firm of Fulbright & Jaworski, LLP.
SEC District Administrator, Philadelphia District Office: Ari Gabinet announced in September that he will leave the Commission at the end of October to head the securities regulation group at the Vanguard Group, Inc.
DOJ Chief, Fraud Section, Criminal Division: Vacant (Apply here if you want the job!)
DOJ Deputy Chief for Litigation, Fraud Section, Criminal Division (Apply here if you'd rather be the Chief's deputy!)

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Tuesday, October 11, 2005

SEC Petition for Rehearing Denied, Injunction-Killing Footnote Stands

As discussed here, the SEC filed a petition for panel rehearing with the Eleventh Circuit on September 22 seeking to get a troubling footnote of dictum in the Smyth opinion deleted because it casts serious doubt on the validity of the SEC's standard injunction orders.

The Eleventh Circuit's response? Petition for rehearing denied.

As Russ Ryan commented here, the result of this footnote not being deleted is that "the SEC is going to have to get more specific in any injunctions it seeks within that circuit, or it will have to file its cases elsewhere."

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Wednesday, October 5, 2005

SEC Wants 11th Circuit Injunction Footnote Deleted

On August 10, 2005, the 11th Circuit published this opinion in SEC v. Smyth which contains a surprising footnote containing dictum that seems to undercut the validity of the SEC's injunctive order. As Russ Ryan of King & Spalding explained in this guest post over at TheCorporateCounsel.net,

"In a startling footnote 14 at the very end of the opinion, the court dropped a bombshell that questions the enforceability of just about every injunction the SEC has obtained in recent memory. The court essentially said an injunction can't be just a broad prohibition against future violations of a statute or rule, because all that does is tell the defendant to "obey the law" without specifying what particular acts are prohibited.

Although the footnote is dictum in a technical sense, the case could have far-reaching consequences for the SEC's enforcement program. The injunctions in Smyth were no different than any other SEC injunction, at least as far as settled cases go. That is, they simply tracked the language of the relevant statutes and rules, and told the defendants and their cohorts not to violate them again.

At a minimum, district courts within the 11th Circuit presumably won't be signing off on future settlements with similarly worded injunctions. So unless the 11th Circuit somehow retracts it criticism of such language, the SEC is going to have to get more specific in any injunctions it seeks within that circuit, or it will have to file its cases elsewhere. And, of course, if other federal courts are persuaded to follow Smyth's logic, they won't sign off on the usual form of SEC injunctive language either, and will probably dismiss any SEC contempt proceedings that are based on injunctions already out there."

BNA now reports that on Sept. 22, the SEC filed a brief with the Eleventh Circuit asking the court to "delete the extensive dictum in footnote 14, which concludes that the consent injunctions entered in this case are unenforceable because they 'track the provisions of the statute or regulation the violation of which is enjoined,' and are therefore invalid 'obey-the-law' injunctions inconsistent with Fed. R. Civ. P. 65(d)." The SEC reportedly argued that the footnote poses a threat to the injunctive relief typically ordered by the SEC, and that it "may be unable to seek further review of the panel's statement from the entire Court or the Supreme Court because the injunctions were entered by consent, and because the statement is dictum."

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Tuesday, October 4, 2005

$60 Million Down, $4.74 Billion To Go

There are some interesting points and figures raised in this August 2005 GAO Report (released Oct. 3) to Congress concerning the SEC's collection efforts. Among them:

As of April 2005, the SEC has designated over $4.8 billion in civil monetary penalties and disgorgement to be returned to investors under the Fair Funds provision of SOX. Of the 75 cases making up this amount, the SEC has collected money in 73.
Although the SEC has collected $4+ billion to be returned to investors, only $60 million has actually been distributed to date. [QUESTION--Where is the other $4.74 billion right now?]
SEC civil monetary penalties in 2003 and 2004 were an amazing 12 and 14 times greater than 2002, respectively:
- 2002: $85,000,000
- 2003: $1,030,602,290
- 2004: $1,206,475,410

According to this article, at least two Congressmen have called for congressional hearings to be held on the issue of the lag in returning funds to investors.

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Tuesday, September 27, 2005

More on the Hazards of Insider Trading by Public Company Employees

I already gave you the straight dope on the stupidity and futility of insider trading by employees of public companies in this post. Let me follow that up by explaining some of the very real hazards of a corollary to this: public company employees who learn inside information and who do not engage in any trading, but who share this information with a friend or other person who then trades on that information.

Well, you say, the employee didn't trade and never made a dime off of the information, so what kind of trouble could he/she personally get in for that? Wouldn't the friend/trader be the only one on the hook in any insider trading case? Ummm, no.

Take a look at yesterday's litigation release by the SEC about its case against against Brian G. Paquette, the former Vice President of Product Management at LendingTree, Inc. The SEC alleges that shortly before a public announcement that LendingTree was being acquired by another company at a substantial premium to LendingTree shareholders, Paquette improperly provided material nonpublic information concerning the pending acquisition to a fellow employee and to a close friend outside the company. The SEC further alleges that both the fellow employee and the close friend then purchased shares of LendingTree while in possession of this material nonpublic information. After the announcement, the price of LendingTree stock soared and Paquette's tippees allegedly sold their shares realizing unlawful profits of $2,109 and $12,420, respectively. Paquette, however, is not alleged to have bought any stock.

The end result, however, is that the SEC sued the non-trading Paquette, who settled the case by agreeing to pay a $29,058 civil penalty, which is equal to two times the trading profits of his tippees.

Even worse for Paquette, the SEC's litigation release states that:

In a related criminal case, the U.S. Attorney's Office for the Western District of North Carolina announced today that Paquette has agreed to plead guilty to a felony obstruction of justice charge, for providing false testimony in the Commission's investigation.

So the end result of Paquette's alleged sharing of inside information with others is that (1) he got himself sued by the SEC for insider trading despite having never traded himself; (2) he had to pay a fine equal to double the profits made by his alleged tippees; (3) he ended up pleading guilty to a felony charge. Other than that it worked out great for him.

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Monday, September 19, 2005

SEC's Cox to Implement Hedge Fund Rule

The WSJ reports that SEC Chairman Christopher Cox intends to implement a rule championed by previous Chairman Donaldson requiring hedge-fund advisers to register with the SEC. Mr. Cox stated that the rule would be implemented "exactly as adopted."

This must come as quite a surprise to critics such as the writer who blasted Cox in this August editorial as someone who would not maintain the integrity of the financial markets and whose "big contribution to American finance has been helping executives hide their companies' numbers." According to the writer,

Republicans got sore when Donaldson sided with the commission's Democrats on important 3-2 votes. One involved regulating hedge funds, which are now big enough to move markets.

Donaldson had to defend himself against charges of being mean to hedge funds. "I don't see how, in all good conscience, we could not have taken the step we did to bring this huge amount of money under some sort of surveillance," he told Business Week.

Cox will be another story. Unlike Donaldson, the congressman never actually built a business. Before entering politics, he was a lawyer for corporate crooks.

The writer concluded this rant against Cox by suggesting that hedge funds supported Cox because they knew they'd be "taken care of":

And so this is the man who will now protect us against Wall Street predators.

Anyone up for putting his or her Social Security money in a stock market overseen by Cox?

A recent headline on the new SEC chairman should surprise no one. It read, "Hedge funds cheering for Cox." They, at least, know they'll be taken care of.

As far as I can tell from the editorial, the writer basically concluded that Cox "would not maintain the integrity of the financial markets" because (1) before becoming a politician he was "a defender of corporate crooks;" (2) "In Congress, he sponsored bills to limit the rights of shareholders to sue companies;" and (3) " Unlike Donaldson, the congressman never actually built a business."

To which I say:

(1) Defender of corporate crooks? Cox was a corporate lawyer (in the mid-1980s) at Latham & Watkins, one of the top law firms in the world. Corporate lawyers draft documents, structure deals, etc. They do not generally "defend corporate crooks." Cox undoubtedly represented dozens of model corporate citizens in addition to the single bad egg client the editorial is focused upon.

(2) He sponsored the PSLRA? So? The PSLRA is not some universally condemned bill designed to harm shareholders. To the contrary, many lawyers, professors, bloggers, investors and even reporters believe it was and is a smart piece of legislation.

(3) Didn't build a business? I'm not sure why this is even relevant to whether a regulator will maintain integrity but, in any event, Cox's bio states that he co-founded a publication called Context Corporation that translated the Russian newspaper Pravda into English.

The bottom line is that I don't know much about Cox or what he will or won't do, but I do know that working at Latham & Watkins as a corporate lawyer and sponsoring the PSLRA is no basis for questioning anyone's commitment to maintaining the integrity of the financial markets.

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Tuesday, September 13, 2005

Memo to Public Company Employees

To: Public Company Employees About to Engage in Insider Trading in Advance of "Big News" About Their Companies

From: Securities Litigation Watch

Re: Your Future (or Lack Thereof)

I saw it when I was at the SEC and I've seen it regularly ever since: SEC enforcement actions against employees of publicly-traded companies who get advance notice of earnings news or other big news concerning their companies and buy/sell the company's stock prior to the announcement of that news. Of course, that practice is called "insider trading" and it is against the law. As I hope to persuade you below, it is also called "incredibly stupid." Seriously, people, we're talking about Darwin Award-level stupidity here.

Let me break this down for you as simply as I can. The following points are true and you need to understand this:

The SEC at least takes a look at the trading that precedes every merger, earnings surprise or other announcement that causes a significant rise or fall in the price of a company's stock. Every one.
If there is unusual trading activity preceding a rise/fall in a company's stock, the SEC will immediately obtain the names of the traders involved. That means your name. They will, in addition, obtain the New Account form that you filled out when you opened the account in which you traded. Now think back...what information was included on that form? Right--your employer.
The SEC also will immediately obtain from the issuer in question (i.e., your company) a list of its employees. Guess whose name is going to be on that list? They will then match that list up against the people who traded in advance of the news announcement. Your name is going to be on both lists, dummy.

What's that you say?? No one will catch you because you cleverly traded in your gramma's account? Wrong again--the SEC is going to call your gramma when they see the trading in her account. They'll ask her if she knows anyone on a list of suspicious traders. Your name will be on that list. Your gramma will then rat out your no-good-gramma-account-trading self or she'll commit perjury. Don't do that to your gramma.
Probably within a week or so, you will be called by the SEC. You will be asked specifically why you bought/sold the stock when you did. You will be asked what you knew and when you knew it. All of this is under penalty of perjury. You will either confess or lie. If you tell the truth, it is game over. If you lie, you may go to prison. See Stewart, Martha.
You will be sued by the SEC, and you will need to either settle or go to trial. You will pay up to hundreds of thousands of dollars if you go to trial, and since you worked for the company and the company will provide a detailed chronology to the SEC of exactly who knew about the "big news" and when, you are going to lose anyway. If/when you settle, you will be forced to disgorge all of your profits (or losses avoided) and pay an additional penalty of somewhere between one and three times that amount. Through your settlement, you may also be prohibited from serving on the board of any public company in the future, and you will be subject to an ongoing court injunction against violating the securities laws.
You will almost certainly be fired by your company when it learns you are among the people who traded in advance of the big news and who is being investigated by the SEC. If you are not fired at that time, you probably will be when you settle or lose the case. You will then likely join the ranks of the hard-core unemployed.

That's it. That's as plain as I can put it. This is an IQ test and every one of you employees (or directors) of public companies whose names show up on this list are failing. Just stop it.

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Tuesday, September 6, 2005

Reg FD Lightning Strikes Siebel Systems...Again!, Part II

Summer's over, kids are back in school, and we're planted once again in the swivel chair at the Securities Litigation Watch command center....What? You didn't even realize we were gone?

The first thing to talk about is Siebel's surprise victory over the SEC in the Reg FD enforcement action brought against it back in June 2004. As discussed here last year, the SEC sued Siebel for the second time under Reg FD claiming violations

during two private events ... in New York on April 30, 2003, a "one-on-one" meeting with an institutional investor and an invitation-only dinner hosted by Morgan Stanley. The Commission charges that, at both the meeting and the dinner, [Siebel's CFO] made positive comments about the Company's business activity levels and transaction pipeline that materially contrasted with negative public statements Siebel made about its business in the preceding several weeks.

In this September 1, 2005 opinion by Judge Daniels of the SDNY, however, the court was having none of that argument. Rather, as Siebel happily trumpeted in this press release,

the Court completely vindicated the Company and two if its executives, Mark Hanson and Ken Goldman, stating that the SEC's approach and interpretation of Regulation FD "places an unreasonable burden on a company's management and spokespersons to become linguistic experts, or otherwise live in fear of violating Regulation FD should the words they use later be interpreted by the SEC as connoting even the slightest variance from the Company's public statements."

The court also observed that the SEC's complaint "scrutinized, at an extremely heightened level, every particular word used in the statement, including the tense of verbs and the general syntax of each sentence. No support for such an approach can be found in Regulation FD...." Because the court found that the complaint did not state a claim, it did not address another thorny issue that has been generating a great deal of buzz lately--the constitutionality of Reg FD under, among other things, the First Amendment.

It is unclear what Reg FD enforcement can or will look like going forward after Siebel. The Siebel court's analysis would at least seem to put an end to any further "body language"-type allegations, as discussed here.

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Friday, August 26, 2005

Pixar/DreamWorks SEC Investigations Raise Interesting Issues

The WSJ has this interesting article today stating that according to "people familiar with the situation," the SEC has launched an informal inquiry into PixarAnimation Studios related to its recent woes with the DVD release of "The Incredibles." The article states that

The government has requested information from Pixar related to the disclosure of its results after heavier-than-expected returns of its "The Incredibles" DVD forced the Emeryville, Calif., studio to miss its second-quarter earnings forecast, the people said.

The inquiry follows the launch of an informal investigation into animation rival DreamWorks Animation, which slashed its earnings forecasts twice after heavy returns of its "Shrek 2" DVD. Unlike DreamWorks, Pixar hasn't informed the market about its informal inquiry, although it is cooperating with the SEC, the people said.

Pixar and DreamWorks reached opposite conclusions on whether the SEC's informal inquiry into apparently similar factual scenarios needed to be disclosed. Basically, the companies seem to have reached differing conclusions on the materiality of these inquiries. As noted in the article,

The question of whether companies are under obligation to inform the market if they are under investigation is a gray area: companies are under obligation to report matters they believe to be material events. After the wave of recent corporate scandals, some companies have been more conservative in assessing what constitutes a material event, however.

Another interesting issue flagged in the article is the SEC's inquiry into what would be a new twist on Regulation FD enforcement--the SEC is reportedly exploring "industrywide topics such as whether showing a gathering of analysts a prescreening of a movie constitutes disclosure of material information to a group of select people, those people say."

The fear, I suppose, is that analysts doubling as amateur movie critics will come pouring out of the screening to call their trading desks: "Buy Pixar! Buy now! The new Toy Story 5 is a laugh riot!"

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Thursday, August 18, 2005

The "Schrempp Discount"

It is interesting that the material, nonpublic and stock-boosting information in the DaimlerChrysler insider trading investigation by Germany's securities regulator, BaFin, is that DaimlerChrysler's chief executive, Jürgen E. Schrempp, would resign. According to this article in the NY Times, following the announcement of his resignation on July 28, shares of DaimlerChrysler spiked up more than 10%. There were unusually heavy purchases in the stock in the hours before the announcement, however, which caused the BaFin to open an investigation.

The article notes that "[a]nalysts had long factored a 'Schrempp discount' into Daimler's stock price, so advance knowledge of the increasingly embattled chief executive's departure would have been highly valuable."

So basically it appears that Schrempp's presence as CEO of DaimlerChrysler was having a widely-known, material, negative effect on the price of the company's stock--the Schrempp discount. Could that be the basis for a lawsuit? The failure to resign as CEO when you know or should know that your resignation would have an immediate and materially positive impact on the price of the company's stock?

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Monday, August 8, 2005

The Formula Still Works, Part II: Stolen Identity?

Yes, the formula still works, but here's a twist no one saw coming: According to this story from the AP, Sonja Anticevic, the Croatian woman whose account the SEC froze because of suspicious options trading in advance of the Adidas-Reebok takeover announcement, said she has never bought any stock and has no clue about how the stock exchange functions. Although $130,000 worth of speculative, out-of-the-money call options were purchased in her account,

Croatian media suggested Monday that 63-year-old Sonja Anticevic, a retired tailor who sometimes works as a cleaning lady to supplement her monthly pension of 1,600 kuna ($263), could be a victim of stolen identity.

Briefly appearing at the doorstep of her apartment in a working-class suburb of the southern city of Omis on Sunday, Anticevic, wearing a plain, sleeveless black cotton dress, told The Associated Press she "never bought a stock and I have no idea how that works.

Leave me alone, please. I'm in shock," she said before closing the doors. She refused to comment further.

The Croatian media also reported that "Anticevic's 25-year-old nephew is a broker in New York and that Anticevic keeps contact with him. It was unclear whether the nephew played any role in the trading and if he did, if he did so with Anticevic's approval."

Anticevic reportedly retired a few years ago after working all her life in a local underwear factory.

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Friday, August 5, 2005

The Formula Still Works

Back in October 2003 I posted a handy 5-point formula for anyone looking to get some real quick action out of the SEC's Division of Enforcement. Based on this announcement today from the SEC about an emergency federal court action it filed freezing a securities account in the name of Sonja Anticevic following "highly suspicious" trades in Reebok International, it looks like the formula still works. Let's compare our prior guidance against Anticevic's alleged conduct:

Step 1. Purchase massive quantities of a company's out-of-the-money, soon-to-expire call options (over 50% of the total trading volume in the particular series of call options that day).
[The complaint alleges that on August 1 and August 2, 2005, the Anticevic account purchased a total of 1,997 out-of-the-money call options for the shares of Reebok at a cost of approximately $130,000].
Step 2. Make these purchases late in the afternoon on the trading day before an announcement of a takeover of the company at a rich premium;
[The Reebok acquisition was announced prior to the opening of the market on Wednesday, August 3, 2005. Not quite the same day as the trades, but close enough].
Step 3. Have the value of your options increase 48-fold following the takeover announcement (from $11,000 to $528,000);
[The complaint states that on August 3, the Anticevic account sold all of the call options, realizing profits of over $2.04 million. By my math, that means that the value of her options went from $130,000 to roughly $2.17 million, or a 16-fold increase. Not quite 48-fold, but 16 is nothing to sneeze at].
Step 4. Have these purchases be the first options you have purchased in the account in over a year.
[TBD--Unknown at this point]
Step 5. Be a former employee of the company being taken over.
[TBD--Unknown at this point]

All in all, pretty close adherence to the 5-point plan. There were some deviations, which may explain the slight delay by the SEC in "reaching out" to Anticevic--it took them a whole 48 hours this time, versus same-day action back in 2003.

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Wednesday, August 3, 2005

"StopCox" Fails to Stop Cox

In case you haven't heard, Christopher Cox was confirmed late last week as the next Chairman of the SEC. We assume that this news did not go over well at all over at the Foundation for Taxpayer and Consumer Rights, which acquired the domain name StopCox.org and apparently produced this video clip trying to defeat Cox's nomination.

As Broc Romanek, aka the Mayor of Blog City, put it in this post at the TheCorporateCounsel.net,

Reading this blog claiming that Chris Cox only faced light questioning, I came across this wacky Web movie attacking Chris Cox on StopCox.org (which now claims Cox perjured himself during his testimony), featuring one of the main characters - Richard Fish - from the Ally McBeal TV series. I guess "Fish" is what passes for a spokesperson for the legal profession these days...and I guess "Fish" is hurting for work to be doing these Web commercials...

I wonder who else was at that casting call competing to be the wacky public face of StopCox.org. In any event, if there is some "Cox" in your world that requires stopping, you can probably acquire this domain name at a discount now from the FTCR.

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Monday, August 1, 2005

Nine Securities Lawyers Jump to Mayer, Brown

The Washington Post reports that a group of 9 partners specializing in securities enforcement and regulation (and an indentified number of associates) has jumped from Crowell & Moring to Mayer, Brown, Rowe & Maw's DC office. The group includes Richard Morvillo, Joe Goldstein and Pat Conti--all of whom were formerly attorneys in the SEC's Division of Enforcement.

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Tuesday, July 19, 2005

Copycats Caught

First there was the "Fraudulent Wrong Number Stock Tip," sniffed out by the SEC and discussed in this post. Now we have its hardcopy cousin, the Fraudulent Wrong Fax Number Stock Tip.

The SEC announced yesterday that it had filed charges against one Joshua Yafa concerning an alleged scam

designed to con investors into believing they had inadvertently received a confidential stock tip faxed from a stockbroker to his client. Unlike typical unsolicited junk faxes recommending penny stocks, the handwritten fax had the appearance of an urgent message from a financial planner intended only for his client, "Dr. Mitchel," urging "Dr. Mitchel" to immediately buy shares of a stock that was about to triple in price. In fact, according to the Commission, neither the financial planner nor "Dr. Mitchel" exists.

Unfortunately for the defendant in this case, a fax machine in the SEC's San Francisco office was among the more than one million recipients of the bogus fax. A copy of the Fraudulent Wrong Fax Number Stock Tip document is available here.

The SEC did not state whether the Fraudulent Wrong Fax Number Stock Tip was itself inspired by its voicemail cousin that circulated widely about four months earlier. The SEC did state, however, that it was also charging another individual who, after receiving a copy of the Fraudulent Wrong Fax Number Stock Tip , was allegedly moved to engage in a copycat scheme. According to the Commission's complaint, this second individual

obtained a copy of Yafa's "Dr. Mitchel" fax and had the AVLL ticker symbol replaced with the symbols of three different microcap companies Pickens had been promoting - Data Evolution Holdings, Inc. (ticker: DTEV), Infinium Labs, Inc. (ticker: IFLB), and Soleil Film, Inc. (ticker: SFLM). The Commission alleges that Pickens sent out nearly a million of the modified "Dr. Mitchel" faxes in December 2004. The share price of the three stocks climbed by as much as 100% on significantly increased volume, and Pickens made over $300,000 selling stock in the companies.

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Thursday, July 14, 2005

Over a Decade Later, Two Former Andersen Partners Catch a Break

Back in the Stone Age when I was at the SEC's Division of Enforcement, the Division filed a May 1998 administrative proceeding against Jeffrey M. Steinberg and John Geron, two then-audit partners of Arthur Andersen, for allegedly "causing" a company called Spectrum Information Technologies to improperly account for certain transactions. According to the Division of Enforcement, the two caused these violations by concurring with Spectrum's improper accounting treatment for the first and second quarters of 1993 (yes, 1993) when they knew or should have known that the accounting was improper and that Spectrum would use their concurrence to justify the improper accounting.

Over three years later, in December 2001, an ALJ ruled in this Initial Decision that the Division of Enforcement had "failed to prove that Respondents caused Spectrum's violations of Section 13(a) of the Exchange Act and Rules 13a-13 and 12b-20 thereunder. Accordingly, the [case] must be dismissed."

According to this article by WebCPA, the Initial Decision was then subject to review by the Commission, and the Division of Enforcement argued again in September 2003 that "that the Andersen auditors helped their client, Spectrum Information Technologies Inc., manipulate its accounting through improper revenue recognition of $10 million in 1993."

Fast forward to July 2005: After nearly two years of "deliberation," less than a week after Chairman Donaldson departed the Commission, the case against these two was finally dismissed. On July 6, 2005, the SEC issued this Order stating that:

The Commission is evenly divided as to whether the allegations in the Order Instituting Proceedings in this matter have been established. Accordingly, it is ORDERED that the proceeding instituted against Jeffrey Steinberg and John Geron be, and it hereby is, dismissed.

By the Commission (Acting Chairman GLASSMAN and Commissioner ATKINS for dismissal; Commissioners GOLDSCHMID and CAMPOS against dismissal).

A footnote to the Order adds that "Former Chairman William F. Donaldson resigned on June 30, 2005. Prior to his resignation, he did not participate in this matter."

I'm not sure what this means--if Donaldson had not participated prior to his resignation, the Commission was presumably deadlocked 2-2 for nearly two years. His departure from the SEC, however, apparently resulted in a prompt dismissal of this case based on that same 2-2 split.

In any event, over a decade of wrangling with the SEC is now over for the two audit partners. Of course, in the meantime, their firm was convicted of obstruction of justice (which was later reversed on appeal) and driven out of business (not reversed).

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Thursday, June 9, 2005

McDermott/Porn Star Insider Trading Case Concludes

White Collar Crime Prof Blog and Fantasy Life have both beaten me to the punch on the latest in the SEC's long-running insider trading case involving James McDermott, former CEO of investment banking firm Keefe, Bruyette & Woods, and a porn star (known as "Marilyn Starr"), so check out their posts on that.

Don't get me wrong--I'm all for anything that will make SEC Enforcement more interesting. But from a purely legal/regulatory perspective, what is the rationale for including Ms. Gannon's former occupation in the lead sentence of the SEC's announcement:

"On May 23, 2005, the U.S. District Court for the Southern District of New York entered final judgments against James J. McDermott, Jr. ("McDermott"), the former Chairman and Chief Executive Officer of Keefe, Bruyette & Woods, Inc., and Kathryn B. Gannon (a.k.a. "Marilyn Starr"), a former actress in adult films, based upon charges of insider trading."

Just asking.

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Corporate Executive Blogs, Part III

Back in the good old freewheelin' days of corporate executive blogs (a couple of months ago), executives briefly felt at liberty to blog about whatever they wished, without the #&%!* lawyers hounding them about it. As I discussed in this post back in March 2005,

Then there's Sun Microsystems President Jonathan Schwartz, who now blogs at Jonathan's Blog. Schwartz tells the Post that "I rarely have a lawyer look over what I'm posting. It's like, am I going to have a lawyer read my e-mail? A blog is no more dangerous than e-mail or a mobile phone."

Well, we'll see about that. Presumably Schwartz's email and mobile phone are not monitored and searchable by plaintiffs' lawyers the way "Jonathan's Blog" will be if things take a turn for the worse at Sun.

(p.s. We set the over/under on the filing date of the first securities class action to include allegations from a corporate executive's blog at December 31, 2005 in that post--still waiting on that).

Fast-forward three months and things seem to have changed a bit over at "Jonathan's Blog." His latest post about Sun's $4.1 billion dollar acquisition of Storage Tek includes a 619-word disclaimer and "safe harbor" provision. Schwartz adds that

"I'm required to include the following disclaimer and safe harbor provisions (which do, in fact, exceed the blog in length) as a part of this communication. I was going to be frustrated at the requirement, until it occurred to me we'd just set a bit of corporate communications history - blogs are now an official communications vehicle at Sun. We should tell the SEC to update the regs. "

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Thursday, June 2, 2005

Despite Earlier Wells Notice, General Mills Announces End to SEC Investigation

In what is a pretty rare turn of events, General Mills announced today that the SEC "has decided to terminate its investigation of the company's sales practices and related accounting. The staff notified General Mills that it has decided not to recommend an enforcement action against the company, its chief executive officer or its chief financial officer."

What's notable about this is that the SEC's decision comes after a prior Wells call to the contrary. According to the General Mills press release and this article from the AP, the SEC's decision followed a February 2004 Wells call from the SEC in which the SEC indicated it's intention to file an enforcement action against the company, CEO Steve Sanger and CFO James Lawrence.

Following a Wells call, a company or person has the opportunity to present a written defense to the Commission in the hopes of persuading the Commission that it should not follow the Division of Enforcement's recommendation. Because this process is "non-public,"the arguments made and even the lawyers involved are usually unknown to the public. Somewhere between February 2004 and today, however, either some new evidence materialized to change the Enforcement Division's recommendation or there was some real good lawyering going on on behalf of General Mills and its executives.

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Tuesday, May 24, 2005

PCAOB's Division of Enforcement Brings First Action

The PCAOB's Division of Enforcement brought its first enforcement action today, revoking one firm's registration and disciplining three accountants for their "failure to cooperate."

As discussed in this press release, PCAOB

revoked the registration of a public accounting firm and barred the firm’s managing partner from association with a registered accounting firm after finding that they concealed information from the Board and submitted false information in connection with a PCAOB inspection.

The Board also censured two former partners in the firm, finding that they participated in the misconduct but noting that they promptly alerted the PCAOB and cooperated in the Board’s investigation.

“Registered accounting firms and their associated persons have a duty to cooperate in PCAOB inspections,” said Claudius Modesti, director of the PCAOB’s Division of Enforcement and Investigations. “The findings in this case demonstrate that the Board will not tolerate conduct aimed at thwarting the Board’s inspections.”

PCAOB's Division of Enforcement is headed up by Claudius Modesti, who joined the PCAOB in May 2004. Mr. Modesti was formerly an AUSA in the Eastern District of Virginia, as well as an attorney in the SEC's Division of Enforcement.

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Tuesday, May 10, 2005

Corporate Executive Blogs, Part II

In this article entitled, "CEO Blogs And Why They Won't Happen," the author argues that those waiting for "a high-powered CEO to enter the so-called blogosphere" should just "keep waiting" because it isn't going to happen anytime soon:

CEOs would have to defy their company's policies on transferring information to the public. And what corporate chief would want to jeopardize a job with a rich compensation package and lavish perks just to talk candidly in a blog?

A CEO blog would be a lose-lose prospect. The blogosphere opens one up for unrelenting criticism. CEOs used to hearing the words "Yes, ma'am" from underlings may not be able to handle the vitriol a group of anonymous commenters could post.

And finding a balance between posting too much or too little corporate information would be near impossible. Perhaps one day as today's CEOs move on to the golf course we'll see one or two take the helm of a Wal-Mart or a GE and start a blog of their own.

But it won't be today.

As discussed in this post, however, the day of the high-profile executive blog is already upon us. Granted, the blogs discussed in that post from top executives at General Motors (Vice Chairman), Boeing (Vice President), and Sun Microsystems (President) were not CEO blogs, but as the many dozens of blogs popping up daily on the CEOBlogList would seem to indicate, a high-profile CEO blog almost certainly will happen, and soon.

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Friday, April 15, 2005

Pop Quiz on Reg FD

Please put all books and papers under your desks. We are having a pop quiz on Reg FD, courtesy of the Wall Street Journal. Click here to take the quiz.

Full disclosure: SLW missed question 3. Our 4 out of 5 performance still earned us the following pat on the head from the WSJ:

"News Hound. You clearly read a lot of newspaper coverage on the SEC. Your company should steer clear of trouble."

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Thursday, April 14, 2005

SEC Enforcement Director Cutler Stepping Down

The Washington Post reports that after 3 and a half years as Director of the SEC's Division of Enforcement, Stephen Cutler will be resigning in mid-May to return to private practice. No successor has been named yet. The WSJ has this interesting video interview with Cutler and CNBC's Maria Bartiroma discussing his departure.

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Tuesday, March 29, 2005

File Those Claims ... Or Else, Part III

The SEC's Litigation Release yesterday in the Measurement Specialties case is the latest example of what we pointed out in this post last month: Increasingly, a consequence for those investors who fail to file claims in securities class action settlements is that they also will miss out on money that is subsequently made available through SEC settlements.

As noted in yesterday's release, the federal court overseeing the SEC's $1,450,000 settlement in this case has approved the SEC's distribution plan. The plan is that all of the money in the distribution fund will be distributed on a pro rata basis to the class members who have qualified to receive funds under the separate class allocation plan approved by the court in the Measurement Specialties securities class action. The claim deadline in the class action was August 23, 2004.

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Tuesday, March 22, 2005

Thou Shalt Not Trade

You just knew that when and if the parties agreed to a settlement in the SEC's case against Peter J. Wilson that the SEC was going to insist on a pretty serious sanction. After all, as discussed in this post last year, Wilson allegedly engaged in a creative but ill-fated trading scheme that involved him impersonating employees of NASDAQ and AMEX! Specifically, the SEC alleged,

After seeing an unusual upward spike in the share price or trading volume of a stock, Wilson would telephone the issuer at or about the time he traded the stock. Wilson's trading strategy generally was to sell the securities short prior to the calls. During these calls, Wilson used an alias and told a corporate officer of the issuer that he was an employee of NASDAQ or AMEX, depending on where the issuer's stock was listed. Using that false authority, Wilson then asked the corporate officers if they knew of a reason for their companies' unusually high share price or trading volume. Wilson was seeking-and in several of these telephone calls received-material, non-public information: that the company knew of no reason for the increased price or volume. In all but one case, Wilson instructed the company to issue a press release confirming that it knew of no reason for the increased price or volume. Two of the companies followed Wilson's instructions and issued such releases. Wilson knew that the companies' stock prices would drop as a result of these press releases.

So I've been keeping an eye out for any resolution of this unusual case and was interested to see this Litigation Release announcing a settlement. In it, the SEC states that in addition to the typical disgorgement and injunction against further violations of the securities laws, Wilson consented to a final judgment

"permanently restraining and enjoining him from, directly or indirectly, trading in securities, other than securities issued by registered open-end investment companies."

In other words, the SEC broke out the seldom-seen "Thou Shalt Not Trade" sanction. This sanction is very rarely used, but, then again, securities regulators are very rarely impersonated.

Of course, not being able to trade may be the least of Wilson's troubles. The Litigation Release also states that he is scheduled to be sentenced on April 5, 2005 in a related criminal case for "one count of securities fraud and one count of making false statements to the Commission during its investigation of this scheme, both felonies."

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Wednesday, March 16, 2005

Qwest's "Culture of Fear"

Add Qwest to the list of companies allegedly run through a "culture of fear." As I discussed in detail in this guest column in Compliance Week last week, the criminal trials in both the Ebbers and Scrushy cases brought testimony about CEOs who pressured and intimidated subordinates into committing accounting fraud in the name of "hitting the numbers."

According to the SEC's complaint filed yesterday against former Qwest CEO Joseph P. Nacchio, two former Qwest CFOs, and several others, Nacchio ran Qwest through a "culture of fear." The complaint states that:

Nacchio had an explosive temper. One senior executive, in describing Nacchio’s interaction with subordinates, explained that "people [were] just afraid of the man."
Another executive who worked on IRU transactions [one-time, non-recurring sales of assets] stated that Qwest management "had a culture of fear." No one wanted to find out the consequences for "not getting IRUs done."
At a January 2001 all-employee meeting, Nacchio stated that "[T]he most important thing we do is meet our numbers. It’s more important than any individual product, it’s more important than any individual philosophy, it’s more important than any individual cultural change we’re making. We stop everything else when we don’t make the numbers."
A Qwest executive noted that Qwest employees were afraid of the consequences of standing up to Nacchio and disputing revenue targets because the consequence was "potentially losing your job."
Nacchio told one executive concerning revenue targets, "you do this or I’ll find someone who will."

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Tuesday, March 8, 2005

Recidivism--Not a Pretty Name, Is it?, Part II

White Collar Crime Prof Blogger (and fellow Raising Arizona fan) Peter J. Henning has answered the question I wondered about in this post about the SEC's recent enforcement action against one "Peter N. Brant," namely whether this is the same Peter Brant from the famous R. Foster Winans case. He concludes that it is the same person, and provides the SEC's complaint from last week which seems to confirm that.

The White Collar Crime Prof Blog is excellent--I've linked to it on the SLW site and encourage you to check it out.

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Monday, March 7, 2005

Recidivism--Not a Pretty Name, Is it?

Raising Arizona (1987)

Parole Board Member #1: They've got a name for people like you H.I. That name is called "recidivism."
Parole Board Member #2: Repeat offender!
Parole Board Member #1: Not a pretty name, is it H.I.?
H.I. McDunnough: No sir. That's one bonehead name, but that ain't me anymore.
Parole Board Member #1: You're not just telling us what we want to hear?
H.I. McDunnough: No sir, no way.
Parole Board Member #2: 'Cause we just want to hear the truth.
H.I. McDunnough: Well, then I guess I am telling you what you want to hear.
Parole Board Member #1: Boy, didn't we just tell you not to do that?
H.I. McDunnough: Yes, sir.
Parole Board Member #1: Okay, then.

On March 3, 2005, the SEC announced that it had filed a settled fraud action against "recidivist Peter N. Brant." This was noteworthy to me for two reasons. First, it gave me a reason to break out the quote above from Raising Arizona. Okay, then.

Second, it got me thinking....Brant...recidivist Peter N. Brant...where have I heard that name before? Wait, could it be? How many recidivist Peter N. Brants can there be? Could this possibly be the return of old-school SEC defendant Peter N. Brant from the R. Foster Winans case? Remember Winans--the Wall Street Journal reporter who was sentenced to prison for his part in a scheme to trade stocks based on advance information about WSJ's "Heard on the Street" column? His conviction was later affirmed by the U.S. Supreme Court. A broker at Kidder Peabody who also pleaded guilty to being part of the scheme was one Peter N. Brant.

As this review on Amazon.com of "Trading Secrets," Winans' book about the whole affair, puts it,

This is the true story of how R. Foster Winans, a well-regarded columnist for The Wall Street Journal allowed himself to become corrupted by a Svengali-like, Gatsby-ish stock broker in the heady days of the early 1980s. His is the same storyline used a year later by Oliver Stone in his original film "Wall Street," starring Michael Douglas as an Ivan Boesky standin and Bud Fox as the young, ambitious sycophant. The broker in Winans case, Peter Brant, proved to be the character that makes this story vibrate with authenticity, an attractive, mysterious, driven young man who, like Gatsby, drifted cooly out of nowhere and bought a palace on Long Island sound.

I don't know about all that, but if anyone can confirm or refute that this is the same "Svengali-like, Gatsby-ish" recidivist Peter N. Brant, please let me know.

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Thursday, March 3, 2005

SEC Sues Rottweiler; Foot-and-Mouth Epidemic Excuse Fails

How's that for a headline?

The SEC announced this week that it had filed a lawsuit against Humatech, Inc. (a fertilizer and animal-feed additive company), and its CEO, David G. Williams, and CFO, John D. Rottweiler.

According to the SEC's complaint,

in January and October 2000, Humatech improperly recorded two sales totaling $297,640 to Humatech Ltd., a United Kingdom distributor that Williams and Rottweiler secretly controlled. These purported sales, however, were contingent on the distributor reselling the product to a U.K. purchaser. The distributor did not resell the product, and, consequently, Humatech failed to ship the products to the U.K. Given the contingent nature of the transactions, they did not qualify for revenue recognition under generally accepted accounting principles.

Interestingly, the SEC alleges that although the company restated its financials to back out this improperly recognized revenue, it "did not disclose that, from the outset, delivery and payment on these purported sales were contingent upon resale of the product by Humatech Ltd. Instead, the amended filings falsely stated that an epidemic of foot-and-mouth disease in U.K. cattle herds interrupted ongoing delivery of the product."

The SEC, however, was not going to fall for the foot-and-mouth epidemic excuse, stating that "in reality, the foot-and-mouth epidemic, which began in February 2001, occurred over a year after the first purported sale, and none of the product had been delivered before the outbreak."

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Friday, February 11, 2005

Spitzer Not Winning Friends and Influencing People at the SEC

If Eliot Spitzer loses the NY Governor race by a few hundred votes it may be SEC employees who are the swing voters. According to an article in Ignites this morning,

Just when it looked as if the two regulators were getting along, Spitzer blasted the SEC at a recent industry conference, declaring that the SEC “hired gnomes rather than people who could think,” according to published reports. He also took shots at the federal regulator’s effectiveness, noting that his staff has only 15 people, while the SEC has thousands.

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Wednesday, February 9, 2005

File Those Claims ... Or Else, Part II

Another consequence for those investors who fail to file claims in securities class action settlements is that, increasingly, they may miss out on additional millions made available through SEC settlements. Take the recent announcement by the SEC concerning it's $25 million settlement in May 2004 with Lucent, for example. The SEC stated in this Litigation Release on February 4 that it has filed a motion seeking to have this $25 million transferred to the account established by the claims administrator in the securities class action settlement involving Lucent (In Re Lucent Technologies Inc. Securities Litigation, Case No. 00CV-621(JAP)). The SEC has proposed that the claims administrator will then distribute the funds to the class members who have already filed claims in that settlement (the claims deadline in that case was March 2004).

The result appears to be that investors who failed to file claims in the Lucent securities class action settlement will suffer the additional consequence of missing out on their share of another $25 million made available by the SEC.

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Wednesday, February 2, 2005

20 Years Later...

20 years (!) after the SEC filed a securities fraud case against First Jersey Securities and Robert Brennan, First Jersey shareholders can seek to recover from a $26 million disgorgement fund the SEC has collected. A distribution plan and settlement notice are available here.

The case seems to move in 10 year increments. The SEC filed it in 1985, and in July 1995, after a trial, the District Court found Brennan and First Jersey liable to pay $74,977,993 in disgorgement and prejudgment interest. 2005 has now brought the settlement claims process. Hopefully settlement proceeds will be distributed well before 2015!

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Friday, January 21, 2005

A Wink and a Nod and a Lawsuit

Don't you hate it when your wife ignores your specific "entreaties" that she not share inside information about your publicly-traded company with her brother, and gets herself sued by the SEC?

On January 13, 2005, the SEC filed this lawsuit against Patricia B. Rocklage, the wife of Scott M. Rocklage, Cubist Pharmaceuticals, Inc.'s former Chairman and CEO, and also against William M. Beaver, Patricia Rocklage's brother (the brother's best friend and neighbor also was sued).

In its complaint, the SEC alleges that

on December 31, 2001, Scott Rocklage informed Patricia B. Rocklage of the negative results of a clinical trial involving one of Cubist's most important products, Cidecin. The complaint also alleges that, unbeknownst to her husband, Ms. Rocklage had a pre-existing understanding with her brother whereby she would give him "a wink and a nod" if she ever became aware of any bad news about Cubist that might affect its stock price. According to the complaint, shortly after learning about the trial results, Ms. Rocklage told her husband that she intended to signal Beaver to sell his Cubist stock. The complaint states that Scott Rocklage urged his wife not to take this action. The complaint asserts that, notwithstanding her husband's entreaties, by no later than the morning of January 2, 2002, Ms. Rocklage provided "a wink and a nod" to Beaver, who, at approximately 10 a.m. that day, sold all 5,583 shares of Cubist stock that he owned or controlled. The complaint further contends that, after receiving the signal from his sister, Beaver tipped his best friend and neighbor, Jones, who proceeded to sell all 7,500 shares of Cubist stock that he owned on the morning of January 3, 2002. Following the post market close announcement of the trial results on January 16, 2002, Cubist's stock price dropped by 46%, from a closing price of $31.75 that day to a closing price of $17.02 on January 17, 2002. By selling when they did, Beaver and Jones avoided losses of $99,527 and $133,222, respectively.

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Monday, January 10, 2005

"Buy-Write-Sell"

The SEC brought a settled enforcement action today against former CBS Marketwatch.com columnist and co-founder Thom Calandra for allegedly making over $400,000 through a practice known as "scalping," or, as the SEC put it, "Buy-Write-Sell."

According to the SEC's press release and complaint, Calandra profited by repeatedly "buying shares of thinly-traded, small-cap companies, writing highly favorable newsletter profiles recommending the companies to his newsletter subscribers, and then selling the majority of his shares when the increased demand generated by his favorable columns drove up the stock price." Calandra allegedly scalped over 20 different securities from March to December 2003.

The SEC alleged that Calandra's conduct violated Section 10(b) of the Exchange Act because:

By knowingly encouraging purchases of thinly-traded, small-cap securities with an intent to gain personally, Calandra assumed a duty to his TCR readers to disclose fully his stock ownership and his intent to sell when the market price in those stocks rose. Defendant breached that duty when he repeatedly failed to disclose his intent to sell over 100 times in 23 different securities, from March to December 2003.

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Thursday, December 9, 2004

Investigating the Investigator

On the heels of the "New Obstruction" we discussed here (the indictment of executives for alleged false statements made to the company's outside counsel which was conducting an internal investigation of possible financial fraud) comes a development that will no doubt cause great concern on the lawyer side of the internal investigation world. According to this article from Bloomberg, SEC staff recently notified a former Brobeck, Phleger & Harrison partner that the SEC may file an action against him for his role in an investigation at Endocare Inc. The article states:

Exactly what [the lawyer] did to provoke the SEC isn't clear. Endocare issued a press release last year saying the probe he conducted found no "intentional wrongdoing by management.'' About a month later, Endocare said it was under investigation by the U.S. Justice Department and the SEC, which has since threatened to sue the company and its former managers.

The article notes that in a Sept. 20 speech, SEC Enforcement Director Stephen Cutler said that he was "concerned'' that some lawyers hired to investigate signs of fraud might have helped cover it up.

We will be watching with great interest to see if the SEC decides to pursue this case and, if so, what exactly the lawyer-investigator allegedly did (or did not do) to prompt action by the SEC. As noted in the article, if the SEC proceeds with this case, other lawyers may think very hard before taking on company investigations. As one former SEC assistant enforcement director was quoted in the article as saying, "There will be some firms who look at this and say we will never do another. They'll think this forces them to choose between being defense counsel and doing these investigations, which are very difficult and messy.''

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Friday, December 3, 2004

When a Dollar (of Disgorgement) Is Worth Millions

The following article first appeared in the December 2004 SCAS Alert:

When a Dollar (of Disgorgement) Is Worth Millions
By Bruce Carton, Executive Director

More and more often, SEC settlements for odd-looking amounts like "$150,000,001" or "$50,000,001" have been generating questions and interests among our clients: Are these typos? What's up with the extra dollar? The answer is that this one dollar of "disgorgement" is the difference between investors receiving hundreds of millions of dollars a year from SEC enforcement actions or absolutely nothing.

Defendants who settle SEC enforcement actions typically agree to pay disgorgement, civil penalties or both. Disgorgement is the surrender of a defendant's "ill-gotten gains," such as the profits made by a person who has engaged in insider trading. Civil penalties are additional fines imposed by the SEC. Using the insider trading example, a person settling an SEC action who made $100,000 in illegal profits would typically be required to pay an additional $100,000 as a "1X" civil penalty, i.e., one times the amount of the ill-gotten gains. Thus, the defendant would pay $100,000 in disgorgement plus a $100,000 civil penalty, for a total of $200,000.

Prior to the Sarbanes-Oxley Act (SOX), the SEC distributed disgorgement funds from settlements to investors, but sent civil penalties to the U.S. Treasury. Thus, in the example above, the $100,000 paid in disgorgement would have gone to investors and the $100,000 in civil penalties would have gone to the Treasury. If a case involved only a civil penalty, investors received no money from the settlement.

Section 308 of SOX ("Fair Funds for Investors") changed this practice in an important way. Under this Fair Funds provision, if a settlement involving a civil penalty also contains disgorgement, "the amount of such civil penalty shall, on the motion or at the direction of the Commission, be added to and become part of the disgorgement fund for the benefit of the victims of such violation." In cases falling under the Fair Funds provision since its enactment as part of SOX in July 2002, the SEC has routinely directed that the entire civil penalty be distributed to investors.

In many SEC settlements of financial fraud cases, however, there is no clear or calculable element of "disgorgement." As the SEC explained in a January 2003 report to Congress, "some issuer financial fraud and reporting cases do not result in any disgorgement orders because no defendant received a tangible profit causally connected to the fraud." For this reason, the SEC recommended that Congress amend Section 308 so that the SEC may distribute civil penalty monies to injured investors regardless of whether disgorgement is ordered. To date, Congress has elected not to do so.

Recent Settlements
The SEC, however, appears to have found a way around the limitations of the Fair Funds provision to the benefit of investors. In mid-2004, the SEC began to order disgorgement of $1.00 in many cases involving large civil penalties that otherwise would not have benefited injured shareholders, thereby triggering the Fair Funds provision. Indeed, $1.00 disgorgements can be found in high-profile SEC cases including Symbol Technologies ($37,000,000 civil penalty; $1.00 disgorgement), i2 Technologies ($10,000,000 civil penalty; $1.00 disgorgement), Royal Dutch Petroleum ($120,000,000 civil penalty; $1.00 disgorgement), Bristol-Myers Squibb Co. ($150,000,000 civil penalty; $1.00 disgorgement) and Qwest Communications ($250,000,000 civil penalty; $1.00 disgorgement). Thus, as a result of the combined five dollars of disgorgement in these five cases alone, the SEC will be able to distribute a total of $567 million to investors.

So, keep an eye open for those odd-looking SEC settlement amounts--often they will be your cue that big money is on the way to investors.

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Tuesday, November 30, 2004

"Carrot and the Stick" at the SEC

Compliance Week has this excellent article entitled "Carrot and Stick: Understanding the SEC's Agenda" by lawyers at White and Case that posits that "recent developments indicate that the Commission is conducting investigations of corporate fraud, not simply to punish wrong-doers, but also as a way of completely re-engineering the ethical code by which public companies, their managers and the directors abide." Focusing on the SEC's recent settlement with Royal Ahold, which involved no monetary payment whatsoever, the article observes that:

In announcing its settlement with Ahold, the SEC cited the company’s extraordinary cooperation and extensive remediation as the reason why it decided not to fine the company. By imposing no monetary penalty on a company that acted responsibly and proactively to disclose and redress wrongdoing, the SEC sent an unambiguous signal that Ahold should serve as a model for how the Commission expects boards and management to behave when wrongdoing is uncovered. In a nutshell, the SEC expects genuine cooperation.

The Ahold settlement is emblematic of the SEC’s new agenda. By imposing increasingly massive fines, the Commission has been showing the stick for the past several years. Now the SEC is showing the carrot by demonstrating that companies that act promptly and responsibly are more likely to receive leniency even if serious wrongdoing occurs.

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Friday, November 19, 2004

Do Not Try This at Home

Just when you start to think that all of the creative securities-related schemes have been tried out, along comes something new. According to the allegations in this Litigation Release from the SEC,

From at least June 2003 through April 2004, [Peter J.] Wilson, a 43-year-old resident of Rocky River, Ohio, engaged in a scheme to profit illegally from trading in the securities of at least five NASDAQ-listed issuers and two AMEX-listed issuers. After seeing an unusual upward spike in the share price or trading volume of a stock, Wilson would telephone the issuer at or about the time he traded the stock. Wilson's trading strategy generally was to sell the securities short prior to the calls. During these calls, Wilson used an alias and told a corporate officer of the issuer that he was an employee of NASDAQ or AMEX, depending on where the issuer's stock was listed. Using that false authority, Wilson then asked the corporate officers if they knew of a reason for their companies' unusually high share price or trading volume. Wilson was seeking-and in several of these telephone calls received-material, non-public information: that the company knew of no reason for the increased price or volume. In all but one case, Wilson instructed the company to issue a press release confirming that it knew of no reason for the increased price or volume. Two of the companies followed Wilson's instructions and issued such releases. Wilson knew that the companies' stock prices would drop as a result of these press releases.

Whoa!

Couple of quick thoughts:

1. Might this be related to, or inspired by, the person the FBI was after back in July 2004 for impersonating an SEC examiner and calling hedge funds to ask questions about the funds' business?
2. Since only two companies issued press releases, does this mean that four of the six companies allegedly "instructed" to issue press releases by a [fake] official of the AMEX/NASD refused to do so?
3. This has the makings of a great law school exam question (Insider Trading 101).

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Tuesday, November 16, 2004

The Truth is Out There, Part II

SLW is resting easy again, no longer worrying about time-traveling insider traders, after several readers sent in comforting information. Specifically, we're told that the story of Andrew Carlssin, who according to the World Weekly News turned an initial investment of $800 into over $350 million in a period of two weeks by using time-travel, has been officially debunked.

We're also advised that although it is no longer on the SEC website, the cache of the original SEC (a.k.a. the "Security and Exchange Commission" in the WWN article) statement in FAQ 19 concerning Mr. Carlssin still exists here.

Finally, one alert reader pondered why using time-travel to make money through insider trading would even be illegal. Given the elaborate "duty" requirements for insider trading under existing law, we think that reader may have a valid point. In that case, let the "Free Andrew Carlssin" movement begin!

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Thursday, November 11, 2004

The Truth is Out There

Securities Litigation Watch is on red-alert following an alarming discovery today and yes, SEC, we're talking to you. Since January 2004, SLW has slept well at night knowing that our nation's securities markets were free from the corrupt influence of time-travelers who would exploit their time-traveling informational edge through insider trading. As you may recall, the SEC comforted the market with this statement, discussed here back in January, in Question 19 of the "FAQ" section of its website:

"Question: Is the Andrew Carlssin case for real?

Imagine my anxiety, then, when I clicked on what had been the link to this seminal FAQ and found . . . nothing. Now the link goes to a general index entitled "Fast Answers — Key Topics" and call me crazy but I do not see Andrew Carlssin, time travel or anything related on that page. Panicking, I plugged Carlssin into the search box on that page and turned up . . . nothing. Hands shaking, I tried the same search on the entire SEC website . . . nothing.

Then I was off to Google to find the "cache" of the old webpage . . . nothing. Yahoo? Nothing.

Clearly something is going on. If the SEC has now confirmed the existence of this time-traveling insider trader, then doggone it, just tell us. We can handle it. I think.

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Wednesday, November 10, 2004

SEC Considered, Rejected Insider Trading Investigation of U.S. Senators

As discussed in detail in this post a couple weeks ago by Professor Bainbridge, a recent study by Alan J. Ziobrowski of Georgia State University and colleagues at three other schools showed that during the 1990s, senators' stock picks (which must be publicly disclosed periodically) beat the market by 12 percentage points a year on average. By comparison, corporate insiders only beat the market by about six percentage points a year, and U.S. households underperformed the market by 1.4 percentage points a year on average.

As reported in this article in Sunday's Philadelphia Inquirer, the authors of the study conclude that these results "suggest that senators are trading stock based on information that is unavailable to the public, thereby using their unique position to increase their personal wealth...." The study adds that it is as if "senators knew appropriate times to both buy and sell their common stock." The article quotes Ziobrowski as stating in a recent interview that "there is cheating going on, at a 99 percent level of confidence."

The Inquirer article states that according to Ari Gabinet, head of the SEC's Philadelphia Office, "agency staff reviewed a draft of the study in March but decided not to press the issue because it is hard to win insider-trading cases without detailed knowledge of what, if any, privileged information the subjects received and proof insiders used it to trade. The SEC lacked such information in the senators' case."

Huh? Yes, it's hard to win insider trading cases but the SEC does so routinely by using its subpoena power to gather documents and testimony that often will provide "detailed knowledge of what, if any, privileged information the subjects received and proof insiders used it to trade."

The article also points out that "the SEC may have little incentive to tangle with the Senate, given their relationship. Senators approve members of the SEC's governing body, as well as the agency's budget."

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Friday, November 5, 2004

Pre-Cog Extraordinaire, Part II

According to this article in the L.A. Times, Pre-Cog Extraordinaire Barry Minkow has done it again, tipping off the SEC to yet another alleged Ponzi scheme operating out of California. According to the article,

The alleged scam came to the notice of authorities via a tip from Barry Minkow, who as a teenager founded ZZZZ Best, a Reseda carpet-cleaning company that perpetrated a notorious fraud on Wall Street investors. Having served a lengthy prison sentence, Minkow is now the pastor of a San Diego church and helps operate a private company that investigates suspected frauds.

Minkow said he and Juan Lopez, a private investigator who works for Minkow's Fraud Discovery Institute, posed as investors to meet with Financial Solutions. His 15-page report, addressed to [SEC attorney Peter F.] Del Greco and dated June 17, was attached to the SEC's filings with Timlin.

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Friday, October 15, 2004

Expanding the "No-Spin" Zone

In posts and articles such as these we have noted that the period immediately following an SEC investigation needs be treated as the "No-Spin Zone." That is, in the days following the conclusion of an SEC investigation or settlement, companies should be careful not to "spin" the resolution beyond its actual terms, or risk a harsh response from the SEC. The recent announcement by insurance company AIG concerning the SEC's view of certain press releases it issued is a reminder that the SEC also appears to consider the No-Spin Zone to include statements characterizing the SEC's investigation while it is ongoing.

According to this article by Reuters,

AIG already faces possible SEC civil charges and a Justice Department criminal investigation into whether one of its units helped Pittsburgh-based PNC Financial Services Group Inc. (NYSE:PNC - News) move $762 million of bad loans off its books, inflating profit by $155 million.
AIG issued the press releases in question on Jan. 30, 2002 and Sept. 21 and Sept. 29 this year. The 2002 release concerned the PNC transactions, the Sept. 21 release said the SEC may file civil charges related to the transactions, and the Sept. 29 release announced a U.S. Justice Department probe.

AIG said in a statement on Monday the SEC believes it misled investors in the 2002 press release when it said it had not entered into other transactions using the PNC structure, when its AIG Financial Products Corp. unit arranged five similarly structured transactions for two insurers.

AIG said the SEC believes the Sept. 21 release should have said the original SEC civil probe concerned these transactions, and that the Sept. 29 release failed to paint a fair picture of the Justice Department probe. Justice is also concerned that the Sept. 29 release was misleading, AIG said.

The insurer said any contention that it made false or misleading statements lacks merit.

As noted in this article, AIG appears to be taking the position that its statements were not misleading because "unlike the PNC transactions, none of the [other 5] transactions had the primary purpose of moving troubled, volatile or underperforming assets off the balance sheet of the counterparty."

This article goes on to ask:

"What's even more troublesome is the additional charge that by denying civil liability AIG committed another breach of the Securities laws. Since when is saying "I did nothing wrong" an actionable tort?"

Cast in this light, the SEC's displeasure with AIG's press releases looks somewhat like the securities fraud charge leveled (and then dismissed) against Martha Stewart after she asserted her innocence. In any event, this situation is a reminder of the SEC's rapt attention to statements made by companies both during and after its investigations.

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Thursday, October 14, 2004

Oh, That Barge Deal

NYSSCPA.org reports that "Enron barge-trial defendant William Fuhs had to explain repeatedly on cross examination Wednesday that he didn't recall much about the 1999 barge deal two and three years after it, but does remember details now."

Fuhs, a former Merrill Lynch banker, reportedly couldn't recall related documents or his involvement in the barge deal when he was interviewed by the SEC in 2002 and by the DOJ in 2003. Fuhs, however, told jurors that "his recall is so much better now because he's spent the time since his indictment going over tens of thousands of documents about the deal."

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Monday, October 11, 2004

The Sleeping Dog Dilemma, Part II

As discussed in this post from late last year, Holly Becker, a onetime analyst at Lehman Brothers, and her husband Michael Zimmerman, a trader at SAC Capital Advisors had been in "regulatory limbo" since mid-2002, when the SEC issued a "Wells call" notifying the two that it intended to bring an enforcement action against them. According to this article, the SEC was investigating a possible insider trading case revolving around whether Becker tipped Zimmerman to research reports she was preparing on several Internet stocks. The article states that the planned enforcement action was suddenly pulled from the SEC's calendar in 2003 after the impending charges were leaked to the news media. Since 2002, however, Zimmerman has reportedly remained at his trading post at SAC Capital with a cloud over his head, while Becker has been stuck on a leave of absence from her analyst post at Lehman.

Apparently, however, this limbo has finally come to an end, as this article reports that the SEC notified the couple on Thursday of last week that the case had been closed with no charges filed.

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Tuesday, September 14, 2004

The $100,000+ Comment

The SEC announced last week that following two jury trials, the Middle District of Florida entered a final judgment in an insider trading case against "Orlando real estate agents" Donna Yun and Jerry Burch. The Complaint, originally filed in 1999, alleged that

on or before Tuesday, February 18, 1997, Yun's husband, then an officer of Scholastic, told Yun in confidence that Scholastic would announce that it expected a loss for the quarter ending February 28, 1997, and that the price of Scholastic common stock would likely decline as a result. Yun breached her duty of confidence and disclosed the inside information at a cocktail party that Tuesday evening to her friend and colleague of six years, Jerry Burch. During the following two days, Burch purchased 130 Scholastic put option contracts, including 10 February contracts that expired within 48 hours, that would rise in value if Scholastic's stock price went down. After Scholastic released its negative earnings announcement on February 20, 1997, Scholastic's common stock price dropped approximately 40 percent, from $61.50 to $36.75. On February 21, Burch exercised his options for a net profit of approximately $269,000 - a 1300 percent return on his two-day investment.

In December 2000, a jury found both Yun and Burch liable for insider trading, but that verdict was vacated on appeal to the Eleventh Circuit based on the district court's jury instructions. In July 2004, the SEC announced that a second jury had found that Yun and Burch were liable for insider trading. Last week's final judgment orders Yun and Jerry Burch jointly and severally to pay disgorgement of the $269,000 in ill-gotten profits, plus pre-judgment interest, and orders them each to pay $100,000 in civil penalties.

So Yun's single comment to her friend at a cocktail party cost her:

--$100,000 in civil penalties;
--joint and several liability for the disgorgement of the $269,000 Burch made; and
--attorney's fees for at least 5 years of litigation, including two federal jury trials.

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Tuesday, August 10, 2004

The Elusive Law of Insider Trading

The following article appeared in the August 2004 edition of ISS's SCAS Alert:

The Elusive Law of Insider Trading
By Bruce Carton, Executive Director

The Martha Stewart case has propelled insider trading back into the news, demonstrating once again the need to sharpen the current laws prohibiting such trading.

Few would disagree with the proposition that trading on nonpublic information is unethical and harmful to shareholders who do not benefit from the same inside information, and that it undermines public faith in the markets. Although we may feel that we will know insider trading when we see it, case after case shows that this simply is not so. Indeed, after reviewing the exact same set of facts, federal prosecutors elected not to charge Ms. Stewart with the crime of insider trading while the Securities and Exchange Commission (SEC) came to the opposite conclusion and filed a civil lawsuit against her alleging insider trading.

The root of the problem with the "insider trading laws" is that there really aren't any. The offense of insider trading stems from Section 10(b) of the Securities Exchange Act of 1934, a vague statute that prohibits the employment of "any manipulative or deceptive device" in connection with the purchase or sale of securities. Although insider trading is sometimes loosely defined as any trading based on "material, nonpublic information," the legal definition flowing from case law is much more complicated and relies heavily on concepts such as fiduciary duty and the "familial duty of trust and confidence."

For instance, in the 1980s, football coach Barry Switzer attracted the attention of the SEC when, after overhearing a corporate executive discuss the imminent "liquidation" of a public company merger, he profitably traded on that information in advance of the liquidation. The SEC brought an enforcement action against Switzer alleging insider trading.

Although Switzer's conduct would seem to meet any commonsense definition of insider trading, he nonetheless defeated the SEC's case against him. The court ruled that the necessary "duty" had not been breached--because the corporate executive was unaware that Switzer had overheard his discussion of the liquidation, the executive had not breached his fiduciary duty to the company. Accordingly, because Switzer's potential liability as a "tippee" under Section 10(b) would have been derivative of his "tipper's" liability, the court's finding that the executive did not breach his fiduciary duty meant that Switzer's trading based on nonpublic information was actually legal.

A case brought by the SEC last month, SEC v. Galluci, also is illustrative of the vagaries of the insider trading laws. In that case, the SEC alleged as follows: A secretary for a prominent corporate lawyer told her husband about confidential, pending mergers and acquisitions on which her boss was working. Husband shared information about imminent mergers with Friend A, and Friend A then shared this information with his own Friend B. Friend A initially did not tell Friend B the source of his information. Later, Friend A told Friend B only that "he had a good friend who worked for an attorney that did mergers and acquisitions."

Can Friend B, presented with this information from Friend A, trade based on this information? The safe answer in terms of both potential liability and ethics, of course, is to refrain from trading. As a purely legal matter, however, is it even possible for Friend B to determine whether trading is against the law in this situation? To answer this question, Friend B would first need to be aware that under applicable case law, his trading would be illegal if (a) the "tipper" breached his duty of confidentiality, and (b) Friend B was aware of that breach.

Even assuming this level of knowledge, however, the answer is still out of the grasp of mere mortals: who is the "tipper" at issue in this situation (Secretary? Husband? Friend A?) and what duty is in question (Secretary's duty to law firm? Husband's duty to Secretary, his wife? Friend A to someone else?)? Does it matter that neither Secretary nor Husband ever traded at all? Does the answer vary given that Friend B initially did not know the source of the information about imminent mergers (when he made some of his trades) but later did possess sketchy information about Friend A's "good friend who worked for an attorney..." (when he made several other trades)?

Notably, as in the Martha Stewart case, the entities responsible for enforcing the securities laws appear to have again come to opposite conclusions: the SEC concluded that Friend B engaged in insider trading (and sued Husband, Friend A and Friend B) while federal prosecutors reportedly brought criminal insider trading charges only against Husband and Friend A.

It can be argued that the continued vagueness of the insider trading laws serves the useful purpose of deterring all trading based on nonpublic information, whether it is technically "legal" or not. While vague laws may have that desired effect, a fairer and more direct use of the law to achieve society's goals in this area would be for Congress to identify what is legal insider trading and what is not, and to articulate the distinction in a coherent statute.

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Tuesday, August 3, 2004

Number of SEC Enforcement Actions Declining in 2004

The L.A. Times reports in this article that for the first time in several years, the number of SEC enforcement actions looks as if it will decline year-over-year. According to the article, in the nine months ended June 30, the SEC brought 378 enforcement actions against companies and individuals. In the same period last year, the SEC brought 443 enforcement actions.

At its current pace, the SEC will log 504 actions for its 2004 fiscal year ending Sept. 30. This would fall well below the 679 enforcement actions in fiscal 2003 and the 598 in fiscal 2002, and barely exceed the 484 brought in 2001.

It is unclear what, if anything, is causing the lower numbers. SEC Chairman William H. Donaldson reportedly called the decline "encouraging" in that it could indicate that the SEC's efforts are having a deterrent effect, but was "quick to add that it was too early for the SEC to declare victory in the war on corporate corruption."

Another explanation could be a change in policy by the SEC's Enforcement's Division. In February 2004, Stephen M. Cutler, Director of the Division of Enforcement, noted in his remarks to the D.C. Bar Association that "cultural changes" encouraging more risk-taking in opening new cases were underway within the enforcement

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Friday, November 3, 2006

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Monday, October 30, 2006

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Monday, September 25, 2006

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Thursday, September 21, 2006

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Friday, March 3, 2006

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