What is going on with the SEC's decision regarding Ted Urban, the former General Counsel of Ferris Baker Watts? Three out of five Commissioners didn't participate in the decision, having recused themselves. The remaining two Commissioners were apparently unable to agree on what to do about the case. This in one of the most high-profile administrative proceedings in recent SEC history.
To recap, the SEC issued an Order Instituting Proceedings ("OIP") in October 2009. The OIP alleged that Urban was a supervisor of a broker who had engaged in securities fraud and that Urban had failed to properly supervise the broker. This was a big deal, because very few securities industry professionals believed that a General Counsel in Urban's position could be properly viewed as a "supervisor" under the securities laws. In September 2010, the Administrative Law Judge, analyzing Urban's actions in light of John H. Gutfreund, 51 S.E.C. 93 (1992), dismissed the allegations, finding that Urban was, in fact a supervisor (while acknowledging that this analysis meant that a number of different people at the firm could have been viewed as the broker's supervisor because they had the ability to affect his conduct) but that he had properly discharged his supervisory responsibilities. The Division of Enforcement appealed this initial decision and the Commission's decision on the appeal was issued on January 26, 2012.
The ALJ decision was criticized at the time it came out, not for absolving Urban, which most agreed was proper, but for the ALJ finding that Urban was a "supervisor." It was hoped that the Commission might shed some light on this issue in the appeal. Instead, because only two Commissioners considered the appeal and could not agree, the Commission in effect appears to have punted. Because the effect of the two Commissioners' inability to agree on how to decide the appeal is to render the ALJ decision "of no effect," the securities industry is left with no clear guidance about what the SEC's current thinking may be regarding who is, and is not, a supervisor under Gutfreund and, assuming that Urban was a supervisor, whether the steps he took in responding to the broker's misconduct were reasonable under the circumstances. The SEC's decision does not even detail what issue split the two deciding Commissioners.
This is a real shame, since this case appeared to provide the SEC with a golden opportunity to set the standard in this area, which has become less and less clear as SEC and FINRA staff have continued to interpret Gutfreund in specific cases under different factual circumstances without any additional Commission guidance in the last 20 years. Maybe next time!
Friday, January 27, 2012
Friday, February 26, 2010
More On Attorney Conflicts of Interest in SEC Investigations
As discussed in my last post, the SEC is saying that the availability of cooperation credit for individuals will pose serious potential conflicts between the interests of persons with knowledge about the events under investigation such that separate counsel might be required under the applicable ethical rules. SEC Staff will scrutinize such potential conflicts in a way that was not customary in SEC investigations before the new policy was announced. However, neither Mr. Khuzami nor Mr. Reisner have indicated whether the same will be true regarding potential conflicts in corporate representations.
If the law firm represents the company and individual officers and directors, the clients' interests can and often do diverge at some point. Traditionally, many firms have chosen the point at which the SEC Staff provides a Wells notice to notify individuals that the Staff intends to recommend an enforcement action against them as the time at which there is a divergence of interests between the company and its employees. This has been called into question by Messrs. Khuzami's and Reisner's recent comments and other comments by Enforcement Staff. Companies will need to provide separate counsel for employees at an earlier stage under the new regime. What about other conflict issues involving the corporate entity?
In 2001, the SEC issued a report of investigation known as the "Seaboard Report," named after a parent company against which the SEC did not take any action following an investigation into misstated financial statements at one of the company's subsidiaries. (See http://www.sec.gov/litigation/investreport/34-44969.htm). The SEC explained the reasons for its decision not to punish the company and laid out criteria for similar "cooperation credit" or "Seaboard credit" to be extended to other companies in future investigations. Among other things, Seaboard voluntarily self-reported its financial misstatements, gave complete cooperation to the SEC Staff, provided detailed reports of its internal investigation, and waived the attorney-client privilege and work product protection with respect to facts uncovered in the investigation.
In evaluating whether and how to provide Seaboard credit to a company, the Commission noted that one question it would examine would be whether the internal investigation was conducted by outside counsel (rather than internal personnel), whether such counsel had represented the company previously (implying that new counsel would be preferable), and whether and, if so, what scope limitations were placed on the review. This analysis in essence questions whether there is a basis for the SEC to believe that the internal investigation was not properly conducted due to a pre-existing relationship between the law firm doing the work and the company's senior management or because there was a limitation placed on what the law firm could consider in forming its conclusions.
Although the SEC Staff has, in a number of investigations, considered the independence of a law firm in evaluating what weight to give to a report, the SEC has to date never given this element the sort of prominence that is now being given to the potential conflicts issue in the context of individual cooperation. This begs the question: will potential conflicts issues become more important in the corporate context as well?
Several potential conflicts exist when a firm undertakes an investigation that will be shared with the SEC in order to obtain Seaboard credit.
If the law firm that conducts the investigation also currently represents the external audit firm (in unrelated litigation), for example, there is a potential conflict between two current clients. In a financial misstatement investigation where the facts indicate that the company's accounting treatment did not comply with GAAP, a conclusion that the auditor was aware of the underlying facts could be detrimental to the audit firm but favorable to the company and its management. The company's interests would be served by including this fact in the investigation report that is shared with the government, but this is likely to run counter to the interests of the audit firm.
Other potential conflicts exist in the corporate context. What will be interesting to follow is whether the SEC applies a similar parsing of the attorney-client relationship in these circumstances.
If the law firm represents the company and individual officers and directors, the clients' interests can and often do diverge at some point. Traditionally, many firms have chosen the point at which the SEC Staff provides a Wells notice to notify individuals that the Staff intends to recommend an enforcement action against them as the time at which there is a divergence of interests between the company and its employees. This has been called into question by Messrs. Khuzami's and Reisner's recent comments and other comments by Enforcement Staff. Companies will need to provide separate counsel for employees at an earlier stage under the new regime. What about other conflict issues involving the corporate entity?
In 2001, the SEC issued a report of investigation known as the "Seaboard Report," named after a parent company against which the SEC did not take any action following an investigation into misstated financial statements at one of the company's subsidiaries. (See http://www.sec.gov/litigation/investreport/34-44969.htm). The SEC explained the reasons for its decision not to punish the company and laid out criteria for similar "cooperation credit" or "Seaboard credit" to be extended to other companies in future investigations. Among other things, Seaboard voluntarily self-reported its financial misstatements, gave complete cooperation to the SEC Staff, provided detailed reports of its internal investigation, and waived the attorney-client privilege and work product protection with respect to facts uncovered in the investigation.
In evaluating whether and how to provide Seaboard credit to a company, the Commission noted that one question it would examine would be whether the internal investigation was conducted by outside counsel (rather than internal personnel), whether such counsel had represented the company previously (implying that new counsel would be preferable), and whether and, if so, what scope limitations were placed on the review. This analysis in essence questions whether there is a basis for the SEC to believe that the internal investigation was not properly conducted due to a pre-existing relationship between the law firm doing the work and the company's senior management or because there was a limitation placed on what the law firm could consider in forming its conclusions.
Although the SEC Staff has, in a number of investigations, considered the independence of a law firm in evaluating what weight to give to a report, the SEC has to date never given this element the sort of prominence that is now being given to the potential conflicts issue in the context of individual cooperation. This begs the question: will potential conflicts issues become more important in the corporate context as well?
Several potential conflicts exist when a firm undertakes an investigation that will be shared with the SEC in order to obtain Seaboard credit.
If the law firm that conducts the investigation also currently represents the external audit firm (in unrelated litigation), for example, there is a potential conflict between two current clients. In a financial misstatement investigation where the facts indicate that the company's accounting treatment did not comply with GAAP, a conclusion that the auditor was aware of the underlying facts could be detrimental to the audit firm but favorable to the company and its management. The company's interests would be served by including this fact in the investigation report that is shared with the government, but this is likely to run counter to the interests of the audit firm.
Other potential conflicts exist in the corporate context. What will be interesting to follow is whether the SEC applies a similar parsing of the attorney-client relationship in these circumstances.
Tuesday, February 23, 2010
The SEC's New Cooperation Policy Explained
Today I attended a joint DC/NYC Bar Association session to hear Lorin Reisner, Deputy Director of the SEC's Division of Enforcement, address the SEC's new cooperation policy with regard to individuals in SEC enforcement investigations. Mr. Reisner spoke live in DC and by video in New York to an audience of SEC practitioners gathered in both locations. Panel members, including Steve Crimmins in DC and Walter Ricciardi, Mark Schonfeld, and Richard Marshall in NY, and attendees at both locations asked questions in a program that lasted a little over an hour.
The SEC issued the second version of its Enforcement Manual (available at http://www.sec.gov/divisions/enforce/enforcementmanual.pdf) on January 13, 2010. The updated manual contains new provisions designed, Mr. Reisner said, to enhance the ability of SEC Enforcement Staff to gain the assistance of persons with knowledge of securities laws violations early in an investigation. He noted that one of the factors to be considered in weighing the value of an individual's cooperation would be how early in the investigation the individual comes forward with an offer to cooperate. As he noted, "the earlier, the better" in this regard.
Mr. Reisner also noted that, in light of the fact that an individual may obtain lenient treatment through cooperation, counsel representing clients in Enforcement investigations will need to carefully consider whether they can represent more than one client simultaneously in the same investigation. He stated that he could think of a number of situations where it would be in one of the client's interests to cooperate and provide information to the detriment of other clients, presenting strong potential for conflicts of interest.
Mr. Reisner's remarks amplified upon earlier remarks by Robert Khuzami, the Director of Enforcement. In December, Mr. Khuzami, addressing the AICPA National Conference, noted:
Mr. Reisner made clear that Enforcement's leadership intends to allow considerable discretion in the area of cooperation to line Staff. One questioner asked Mr. Reisner whether disagreement with investigative Staff on whether to enter into a cooperation agreement, deferred prosecution, or other cooperation credit could, or should, be escalated to more senior Enforcement Staff. Mr. Reisner noted that such an escalation would probably be to no avail, absent exceptional circumstances.
It remains to be seen how effective this new tool will prove to be. As one questioner commented, following the SEC's Seaboard opinion, which laid out the criteria for an entity gaining credit for cooperation with SEC investigations (see http://www.sec.gov/litigation/investreport/34-44969.htm), subsequent SEC settlements with entities yielded few clues as to how cooperation had benefited settling companies or firms. The settlements generally acknowledged cooperation but it was difficult to establish what benefits that cooperation had gained. According to a questioner, more clarity may be needed before it makes sense to recommend to individual clients that there will be a tangible benefit to cooperating with the SEC under the new policy. Mr. Reisner intimated that there are investigations currently in the works that will provide insight into how individual cooperation credit will be rewarded.
Whether or not the SEC's cooperation policy will prove effective, it is clear that Enforcement's new leadership plans to leverage all tools at its disposal to streamline and accelerate the time it takes to investigate and bring cases.
The SEC issued the second version of its Enforcement Manual (available at http://www.sec.gov/divisions/enforce/enforcementmanual.pdf) on January 13, 2010. The updated manual contains new provisions designed, Mr. Reisner said, to enhance the ability of SEC Enforcement Staff to gain the assistance of persons with knowledge of securities laws violations early in an investigation. He noted that one of the factors to be considered in weighing the value of an individual's cooperation would be how early in the investigation the individual comes forward with an offer to cooperate. As he noted, "the earlier, the better" in this regard.
Mr. Reisner also noted that, in light of the fact that an individual may obtain lenient treatment through cooperation, counsel representing clients in Enforcement investigations will need to carefully consider whether they can represent more than one client simultaneously in the same investigation. He stated that he could think of a number of situations where it would be in one of the client's interests to cooperate and provide information to the detriment of other clients, presenting strong potential for conflicts of interest.
Mr. Reisner's remarks amplified upon earlier remarks by Robert Khuzami, the Director of Enforcement. In December, Mr. Khuzami, addressing the AICPA National Conference, noted:
Cooperation will have other consequences, such as in the area of representation of multiple witnesses by a single lawyer or law firm. It is not uncommon for dorporations and audit firms to hire a single law firm to represent multiple company employees in SEC investigations. When one law firm represents more than one witness, there is a risk of a conflict of interest between the clients — and this risk generally increases exponentially as the number of witnesses represented grows. Indeed, in some cases, we have seen one law firm represent up to 20 witnesses or more. The risk of conflict of interest is further increased where the witnesses occupy different positions, responsibilities, knowledge, and involvement in the conduct being investigated. For example, an engagement partner’s potential liability for a failed audit can be very different from a staff member’s.(See Mr. Khuzami's full remarks at http://www.sec.gov/news/speech/2009/spch120809rsk.htm). It seems that the SEC will now, like the DoJ, view as problematic any situation involving counsel representing more than one client simultaneously due to the new cooperation policy. Whereas companies and firms have hitherto attempted to secure certain economies of scale by using a single firm to represent the company and its officers and employees, at least until the stage of an SEC investigation when the Staff issues a Wells notice at which point separate counsel are retained, this may no longer be advisable due to the effects of the new policy.
Now, lawyers have an ethical obligation to zealously represent the interests of their clients. And let me be clear — most lawyers take that obligation seriously and fulfill that important obligation appropriately. However, the broader availability of cooperation credit will increase the risk of conflicts of interest in situations where counsel seeks to represent multiple clients. It may be in the interest of one client to be the first to report the misconduct to the Commission or offer his or her cooperation. But, obviously, only one client can be first. Similarly, it may be in the interest of one client to provide evidence that is not helpful to another client of the same counsel. Accordingly, this new program could pose heightened ethical concerns for counsel representing more than one person who could potentially benefit from cooperating in a Commission investigation. It is something that counsel and their clients should carefully consider.
Mr. Reisner made clear that Enforcement's leadership intends to allow considerable discretion in the area of cooperation to line Staff. One questioner asked Mr. Reisner whether disagreement with investigative Staff on whether to enter into a cooperation agreement, deferred prosecution, or other cooperation credit could, or should, be escalated to more senior Enforcement Staff. Mr. Reisner noted that such an escalation would probably be to no avail, absent exceptional circumstances.
It remains to be seen how effective this new tool will prove to be. As one questioner commented, following the SEC's Seaboard opinion, which laid out the criteria for an entity gaining credit for cooperation with SEC investigations (see http://www.sec.gov/litigation/investreport/34-44969.htm), subsequent SEC settlements with entities yielded few clues as to how cooperation had benefited settling companies or firms. The settlements generally acknowledged cooperation but it was difficult to establish what benefits that cooperation had gained. According to a questioner, more clarity may be needed before it makes sense to recommend to individual clients that there will be a tangible benefit to cooperating with the SEC under the new policy. Mr. Reisner intimated that there are investigations currently in the works that will provide insight into how individual cooperation credit will be rewarded.
Whether or not the SEC's cooperation policy will prove effective, it is clear that Enforcement's new leadership plans to leverage all tools at its disposal to streamline and accelerate the time it takes to investigate and bring cases.
Thursday, November 5, 2009
Why Insider Trading Now?
The SEC is going after insider trading in a big way, apparently. After years of lower profile cases, suddenly the agency has gone big with some blockbuster cases, in parallel with the DoJ. First it was the Galleon Group three weeks ago, http://www.sec.gov/litigation/litreleases/2009/lr21255.htm, today it's the "Octopussy" case, http://www.sec.gov/news/press/2009/2009-236.htm. Has insider trading just become a sexy topic again? It seems so . . .
It's not as though insider trading was dormant for the last decade--on the contrary. However, it seems that the SEC and DoJ have beefed up resources to look for it now, in the wake of the financial crisis. According to Bloomberg, the government used wiretaps to develop its evidence in the Galleon probe. See http://www.bloomberg.com/apps/news?pid=20601087&sid=as8seXJpbDUY. Understandably, traders are concerned that the DoJ is in the process of unveiling yet another tool typically used in organized crime investigations against white collar types. However, it's also possible that the government originally obtained its wiretap authority in this case not because of insider trading suspicions but as part of a terrorist financing investigation. Discussing the Galleon investigation, the Wall Street Journal noted that Galleon's founder, Raj Rajaratnam, had "surfaced in an earlier, separate probe into U.S. fund raising by a Sri Lankan terrorist group." See http://online.wsj.com/article/SB125583082290592413.html?mod=rss_whats_news_us. That probe seems to have started around 2006 and lasted several years. Mr. Rajaratnam was never charged with knowingly funding a terrorist group (and according to his counsel that is because he never did--he was providing funds to help rebuild homes destroyed in the 2005 tsunami that devastated his native Sri Lanka). However, it may be that the roots of the Galleon insider trading investigation was a byproduct of the war on terror rather than a new war on Wall Street.
Today's "Octopussy" indictment by the DoJ and complaint filed by the SEC allege that several Wall Street lawyers and traders participated in an insider trading ring centered around Zvi Goffer, allegedly known as "the Octopussy" because of his reputation for having multiple sources of inside information. This might be viewed as evidence of mutiple different inside trading investigations except for one fact: Mr. Goffer is apparently a former Galleon trader. The two investigations may be linked. When the DoJ and SEC publicized their cases against Mr. Rajaratnam, they promised that there was more to come and the Octopussy case appears to be "more."
What to make of all this? There is no doubt that the SEC and DoJ have been handed marching orders by the administration and Congress: traders and executives in the financial markets are crooked, so go after them. It may not be possible to assess the blame for something as large as the economic crisis, but it is possible to ferret out people who have profited in one way or another from the markets. They weren't connected to the crisis, but they are red meat to politicians eager to place blame on Wall Street greed rather than political miscalculations. There are going to be more where these came from, presumably.
After its comeuppance before multiple Congressional committees over the Madoff scandal, the SEC has come to heel as well and been reminded of its own motto born from the ashes of the last major economic collapse. Investors appear to have their advocate back. Whether that advocacy will be tempered by judgment, only time will tell.
It's not as though insider trading was dormant for the last decade--on the contrary. However, it seems that the SEC and DoJ have beefed up resources to look for it now, in the wake of the financial crisis. According to Bloomberg, the government used wiretaps to develop its evidence in the Galleon probe. See http://www.bloomberg.com/apps/news?pid=20601087&sid=as8seXJpbDUY. Understandably, traders are concerned that the DoJ is in the process of unveiling yet another tool typically used in organized crime investigations against white collar types. However, it's also possible that the government originally obtained its wiretap authority in this case not because of insider trading suspicions but as part of a terrorist financing investigation. Discussing the Galleon investigation, the Wall Street Journal noted that Galleon's founder, Raj Rajaratnam, had "surfaced in an earlier, separate probe into U.S. fund raising by a Sri Lankan terrorist group." See http://online.wsj.com/article/SB125583082290592413.html?mod=rss_whats_news_us. That probe seems to have started around 2006 and lasted several years. Mr. Rajaratnam was never charged with knowingly funding a terrorist group (and according to his counsel that is because he never did--he was providing funds to help rebuild homes destroyed in the 2005 tsunami that devastated his native Sri Lanka). However, it may be that the roots of the Galleon insider trading investigation was a byproduct of the war on terror rather than a new war on Wall Street.
Today's "Octopussy" indictment by the DoJ and complaint filed by the SEC allege that several Wall Street lawyers and traders participated in an insider trading ring centered around Zvi Goffer, allegedly known as "the Octopussy" because of his reputation for having multiple sources of inside information. This might be viewed as evidence of mutiple different inside trading investigations except for one fact: Mr. Goffer is apparently a former Galleon trader. The two investigations may be linked. When the DoJ and SEC publicized their cases against Mr. Rajaratnam, they promised that there was more to come and the Octopussy case appears to be "more."
What to make of all this? There is no doubt that the SEC and DoJ have been handed marching orders by the administration and Congress: traders and executives in the financial markets are crooked, so go after them. It may not be possible to assess the blame for something as large as the economic crisis, but it is possible to ferret out people who have profited in one way or another from the markets. They weren't connected to the crisis, but they are red meat to politicians eager to place blame on Wall Street greed rather than political miscalculations. There are going to be more where these came from, presumably.
After its comeuppance before multiple Congressional committees over the Madoff scandal, the SEC has come to heel as well and been reminded of its own motto born from the ashes of the last major economic collapse. Investors appear to have their advocate back. Whether that advocacy will be tempered by judgment, only time will tell.
Tuesday, November 3, 2009
Inaugural Post
It begins. No blaring trumpets or ruffles and flourishes. Simple, straightforward.
Commentary haiku. Joycean stream of consciousness. Finnegan's Wake via keyboard and mouse. But is it art? Is it ever art when everyone can do it? Can it be art if I can do it? Who knows, or cares?
Here goes nothing . . .
Commentary haiku. Joycean stream of consciousness. Finnegan's Wake via keyboard and mouse. But is it art? Is it ever art when everyone can do it? Can it be art if I can do it? Who knows, or cares?
Here goes nothing . . .
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