Legal Developments in Securities Law

How Can I Claim an SEC Whistleblower Award: Dodd-Frank’s Whistleblower Incentives
Under the Sarbanes-Oxley Act of 2002 (SOX), the whistleblower provision prohibited publicly traded corporations from taking any adverse employment action against an employee that internally reported or externally disclosed conduct reasonably believed to be a violation of any rule or regulation of the Securities and Exchange Commission (SEC) or a violation of any provision of federal law concerning fraud against shareholders. While SOX was initially thought to provide important whistleblower protection, it soon became apparent that the laws under SOX did not do enough to encourage potential whistleblowers to come forward.

With the passage of the Dodd-Frank Act came great whistleblower incentives, including anti-retaliation provisions and the payment of bounty for a whistleblower’s tip, complaint or referral. Since July 21, 2010, whistleblowers have been able to submit information to the SEC or CFTC pursuant to the new provisions in the Dodd-Frank Act, but the new Whistleblower Program took full effect today.

Individuals who feel they may have important information concerning a potential securities law violation should be aware of the following conditions:

Who Can Be a Whistleblower:
A whistleblower is not limited to an employee of a company, but can be any individual with original information about a potential securities law violation. Notably, companies and organizations cannot qualify as whistleblowers. In addition, a whistleblower will be denied a bounty if:

  • the whistleblower fails to submit information in accordance with the form required by the SEC
  • the whistleblower is or was at the time of submission a member of a regulatory agency, the Department of Justice, a self-regulatory organization, the Public Company Accounting Oversight Board, or any law enforcement organization
  • the whistleblower is convicted of a criminal violation related to the judicial or administrative action involved; or
  • The whistleblower learned the information through performing an audit.

What Entitles a Whistleblower to a Bounty:
The Exchange Act has been modified to provide the whistleblower a monetary incentive if the individual provides information relating to a violation of ANY of the securities laws. A whistleblower is entitled to an award if:

  • A proceeding by the SEC results in monetary sanctions which exceed $1 million
  • The information provided by the whistleblower came from the whistleblower’s independent knowledge or analysis
  • The information provided by the whistleblower is either the only source for the SEC of that information or if it was the original source for the SEC; and
  • The information provided is not exclusively obtained from a judicial proceeding or other public source, unless the whistleblower was the original source of that information.

What Kind of Bounty Could a Whistleblower Receive:
If all of these conditions are met, then the SEC is required to pay the whistleblower 10% -30% of the monetary sanctions imposed in the action. Although the SEC is required to pay the whistleblower an amount from 10-30%, the actual amount is within the discretion of the SEC, dependent on factors such as the significance of the information provided, the degree of assistance from the whistleblower, the SEC’s interest in creating an incentive for reporting potential securities law violations and other factors as established by the rule or regulation.

The whistleblower “bounty” program creates an incentive that previously did not exist – a whistleblower could stand to benefit immensely from alerting the SEC or CFTC about a potential securities law violation. For example, if the SEC collects $2,000,000 in penalties, disgorgement and interest from its successful prosecution of securities law violations that were related to the original information provided by the whistleblower, the whistleblower could earn between $200,o00 and $600,000 for his or her tip, complaint or referral.

What Other Incentives Are Offered to Whistleblowers:
Anti-Retaliation: The Dodd-Frank Act now protects whistleblowers from being demoted, suspended, threatened, harassed (directly or indirectly) or in any way discriminated against because the whistleblower provided information to the SEC, assisted in any proceeding brought by the SEC based on such information or made any disclosures required or protected under SOX. The new legislation now provides a private cause of action for reinstatement of the same seniority status the whistleblower would have had but for the discrimination, two times the amount of back-pay otherwise owed, with interest, and compensation for litigation costs, expert witness fees, and reasonable attorneys’ fees.

Anonymity: If the whistleblower wishes to remain anonymous, he or she must retain an attorney to submit the information about a potential securities law violation to the SEC or CFTC.

What the Dodd-Frank Whistleblower Incentives Mean:
With the new incentives in this legislation, individuals can gain a monetary reward in addition to greater legal protections from retaliation. Individuals who have experienced retaliation as a result of providing information to the SEC or those who feel they have important information to submit to the SEC should consider retaining an attorney with securities law experience to assist them with their retaliation claim or with submitting their information through the SEC’s online questionnaire or a Form-TCR. Of course, those individuals who wish to remain anonymous are required to retain an attorney to participate in the Whistleblower Program.

View the SEC’s Statement on the New Whistleblower Program

Legal Developments in Securities Law

Federal Judge Critiques SEC’s Proposed Settlement with Citigroup
Could Force SEC to be More Aggressive in the Future
This blog post references Peter Latman’s NY Times article, “Judge in Citigroup Mortgage Settlement Criticizes S.E.C.’s Enforcement,” found here.

Yesterday, the Securities and Exchange Commission (“SEC”) was asked by Judge Rakoff to defend its proposed settlement with Citigroup Global Markets, Inc. (“Citigroup”) based on its structuring and marketing of a largely synthetic collateralized debt obligation. Specifically, the SEC alleged that Citigroup negligently misrepresented key deal terms, such as its own financial interest in the transaction and that Citigroup had exercised significant influence over the selection of assets.

Judge Rakoff questioned the SEC’s decision to accept a settlement of $285 million, while indicating that the SEC estimated that investors lost close to a total of $700 million in the investments. Judge Rakoff was equally inquisitive about the SEC’s injunction, to bar Citigroup from violating securities laws in the future. Notably, the Judge asked, “Why do you ask for an injunction when you never use it?” The SEC can file civil contempt proceedings if an organization or individual under an injunction not to violate securities laws in fact violates securities laws again in the future. Notably, no such charges have been brought in the last ten years. Such injunctive relief has been the subject of ridicule in the past – it is axiomatic that an organization or an individual is prohibited by law from violating securities laws. As is standard with settlements with the SEC, the entity or individual involved does not admit or deny any wrongdoing with regard to the allegations. Judge Rakoff likewise questioned Citigroup’s unwillingness to admit liability in this matter.

Some may remember that Judge Rakoff likewise questioned the SEC’s proposed settlement with Bank of America concerning whether Bank of America misled investors about its acquisition of Merrill Lynch. There, Judge Rakoff initially rejected a $33 million settlement proposal, and later reluctantly accepted a revised settlement for $150 million.

Judge Rakoff’s refusal to “rubber stamp” the SEC’s proposed settlements with large financial institutions could have potential ramifications on the settlements the SEC negotiates in the future. Judge Rakoff’s comment, “I won’t be cute and ask what percentage of Citigroup’s net worth is $95 million because I do not have a microscope with me,” indicates that this type of scrutiny is perhaps reserved for larger financial institutions, rather than their smaller counterparts or even individuals. Seemingly, given the alleged violations involved and the impact on the shareholders involved, the settlement amount was not proportionate to the harm based on Judge Rakoff’s observation. Although the SEC may adjust its disgorgement figures or civil penalties based upon a respondent’s showing of its/his/her financial inability to pay, an entity like Citigroup clearly does not face such a burden. As a result of Judge Rakoff’s refusal to acquiesce to whatever settlement proposal the SEC sets forth, the SEC may play hardball with large financial institutions to avoid future judicial scrutiny. Further, it is conceivable that the SEC may file a civil contempt proceeding the next time that an institution that has been barred from violating securities laws, violates securities laws. Although the SEC has not done so in at least ten years, pressure from the public may mount if an entity like Citigroup or Bank of America is accused of violating securities laws again. It seems unlikely, however, that respondents would be forced to admit liability as a condition of settlements – the practice of neither admitting nor denying liability is not only standard among settlements with the SEC, but in the general practice of law.

So-called smaller actors, such as smaller entities or individuals, may nonetheless find the SEC requesting large settlement amounts, especially given the impact, severity or frequency of their alleged securities law violations. The SEC takes into account a number of factors when determining an appropriate civil penalty, such as the egregiousness of the defendant’s actions, the isolated or recurrent nature of the infraction, the degree of scienter involved, the sincerity of the defendant’s assurances against future violations, the defendant’s recognition of the wrongful nature of his conduct, and the likelihood that his occupation will present opportunities for future violations. Think of an individual like Raj Rajaratnam, who was recently ordered to pay a total of $156.6 million in fines and disgorgement, an amount that Judge Rakoff again questioned given Rajaratnam’s net worth and the fact that the civil penalty was designed, in Judge Rakoff’s words, “to make such unlawful trading a money-losing proposition not just for this defendant, but for all who would consider it.”

Further, although the SEC may request injunctive relief that an individual be barred from violating securities laws in the future, that individual may also be barred from serving as a director of a public company, from working in the securities industry, or from participating in the issuance of certain kinds of securities offerings, to name but a few examples. Judge Rakoff’s remarks should serve as a wake-up call for large financial institutions, but others are by no means less vulnerable to the range of consequences the SEC could request.

SEC Announces Charges Against Standard & Poor’s for Fraudulent Ratings Misconduct

On January 21, 2015, the Securities and Exchange Commission announced a series of federal securities law violations by Standard & Poor’s Ratings Services involving fraudulent misconduct in its ratings of certain commercial mortgage-backed securities (CMBS). S&P agreed to pay more than $58 million to settle the SEC’s charges, plus an additional $19 million to settle parallel cases announced today by the New York Attorney General’s office ($12 million) and the Massachusetts Attorney General’s office ($7 million). The SEC issued three orders instituting settled administrative proceedings against S&P. One order, in which S&P made certain admissions, addressed S&P’s practices in its conduit fusion CMBS ratings methodology. The SEC alleged that S&P’s public disclosures affirmatively misrepresented that it was using one approach when it actually used a different methodology in 2011 to rate six conduit fusion CMBS transactions and issue preliminary ratings on two more transactions. As part of this settlement, S&P agreed to take a one-year timeout from rating conduit fusion CMBS.

SEC Charges Texas-Based Brokerage Firm With Violating Supervisory and Customer Protection Rules

The Securities and Exchange Commission recently charged an Irving, Texas-based brokerage firm with violating key customer protection rules after failing to adequately supervise registered representatives who misappropriated customer funds. H.D. Vest Investment Securities agreed to settle the charges by paying a financial penalty and retaining an independent compliance consultant to improve its supervisory controls. According to the SEC’s order instituting a settled administrative proceeding, H.D. Vest has more than 4,500 registered representatives typically working as independent contractors who also operate tax businesses outside of their securities businesses. H.D. Vest failed to have proper policies and procedures in place to monitor its representatives’ outside business activities, and as a result some representatives used their outside businesses to defraud brokerage customers in such ways as transferring or depositing customer brokerage funds into their outside business accounts.

SEC Charges Colorado Investment Firm and Its Manager with Fraud

The Securities and Exchange Commission today filed fraud and other charges in the United States District Court for the District of Colorado against Donald J. Lester and his self-described private equity firm Rubicon Alliance, LLC (“Rubicon”). According to the SEC’s complaint, from approximately January 2010 through December 2014, Lester and Rubicon raised over $10 million through the sale of unregistered securities for two investment funds managed by them, CFI Fund, LLC (“CFI”) and NuPower, LLC (“NuPower”). Previously, as alleged in the complaint, Lester was involved in the sale of unregistered securities for a group of investment funds known as Equity Edge, which was struggling to repay investors. Among other things, the SEC’s complaint alleges that Rubicon had guaranteed Equity Edge’s performance, and that Lester devised a fraudulent and undisclosed scheme to use $2.8 million of CFI investor funds to satisfy Rubicon’s repayment obligations to the Equity Edge investors.

Final Judgment Entered Against California-Based Unregistered Broker Alleged to Have Fraudulently Offered and Sold Pre-IPO Facebook and Twitter Shares; Defendants Ordered to Pay Over $3 Million in Monetary Relief

The Securities and Exchange Commission announced that on September 29, 2015, a final judgment was entered against Efstratios “Elias” Argyropoulos of Santa Barbara, California, and his solely owned company, Prima Capital Group, Inc., by a United States District Judge in Los Angeles. In addition to the permanent injunction to which the defendants had previously consented, the Court granted the Commission’s motion for monetary relief, finding the defendants jointly and severally liable for disgorgement of $1,495,657, together with prejudgment interest of $84,239.59 totaling $1,579,896.59, and additionally ordering Argyropoulos to pay a civil penalty of $1,495,697.

On December 23, 2014, the Commission filed the action, alleging that the defendants fraudulently raised nearly $3.5 million from investors purportedly to purchase Facebook and Twitter shares prior to the companies’ initial public offerings (IPOs). Instead of purchasing the shares in the secondary market as promised, the defendants misappropriated investor funds. They used the money primarily for day trading of stocks and options as well as to pay off certain investors who complained when they didn’t receive the promised Facebook or Twitter shares.

Argyropoulos and Prima Capital agreed to settle the SEC’s charges and to be barred from working for an investment adviser or broker-dealer when the action was filed, and further agreed that monetary relief would be determined at a later date.

Without admitting or denying the allegations in the SEC’s complaint, Argyropoulos and Prima consented to a judgment permanently enjoining them from violations of the antifraud provisions of Section 17(a) of the Securities Act of 1933 and the antifraud and broker-dealer registration provisions of Sections 10(b) and 15(a) of the Securities Exchange Act of 1934 and Rule 10b-5 thereunder.