Securities Law Prof Blog

Editor: Eric C. Chaffee
Univ. of Toledo College of Law

Wednesday, July 18, 2007

DOJ Corporate Fraud Convictions Top A Thousand

The DOJ announced that its corporate fraud task force, in five years, has obtained 1,236 fraud convictions, including 214 CEOs and 53 CFOs, and has collected over $1 billion in fraud-related forfeitures.  WSJ, Prosecutors Feel Pressure To Curb Aggressive Tactics .

July 18, 2007 in News Stories | Permalink | Comments (0) | TrackBack (0)

Whole Foods CEO Says He's Sorry

Whole Foods CEO John Mackey said he's sorry for his error in judgment in annonymously posting email messages for seven years, and the company confirmed that the SEC is conducting an investigation.  It also said that the company is conducting its own investigation in the matter.  NYTimes, Whole Foods Chief Apologizes for Posts. WSJ, Whole Foods Sets Probe as CEO Apologizes.

July 18, 2007 in News Stories | Permalink | Comments (0) | TrackBack (0)

Cox Wants Strengthening of Government Accounting Standards Board

SEC Chair Cox is expected, in a speech today, to call on Congress to strengthen the Government Accounting Standards Board, which sets accounting standards for state and local governments, in light of the size, importance and complexity of the municipal bond market.  San Diego recently settled charges with the SEC that it failed to disclose completely information about its health-care and pension obligations.  Among the Board's weaknesses:  compliance with its standards is voluntary, and it has no independent funding source.  In addition, public access to governmental financial information is limited.  Chair Cox is also expected to announce that the SEC will review brokerage firms for its compliance with rules banning "pay to play," or the practice of making political donations to get municipal bond business.  NYTimes, S.E.C. Chief Seeks New Clout for Board Overseeing States; WSJ, SEC Chief Wants to Boost Oversight of Muni Market.

July 18, 2007 in News Stories | Permalink | Comments (0) | TrackBack (0)

Dow Jones Board Approves Sale

The Dow Jones board approved the sale of the company to News Corp yesterday.  None of the sixteen directors dissented from the vote, although two members of the Bancroft family did not vote at all -- one left early, another abstained from voting, as did another director.  News Corp. announced its board would authorize the agreement if enough Bancroft family members promptly signed voting agreements to assure shareholder approval.  The Bancroft family will meet Monday to consider the deal.  NYTimes, Dow Jones Board Reaches Deal With Murdoch; WSJ, Dow Jones Board Approves Sale.

July 18, 2007 in News Stories | Permalink | Comments (0) | TrackBack (0)

Tuesday, July 17, 2007

Former SEC Commissioners Support Plaintiffs in Scheme Liability Case

Three former SEC Commissioners have filed a brief with the Supreme Court, asking permission to file a brief on behalf of plaintiffs in the Charter Communications case involving "scheme liability" under rule 10b-5.  Last month the U.S. Solicitor General did not file a brief on behalf of the plaintiff-investors, as the SEC requested.  Treasury Secretary Paulson opposed the SEC's position, and President Bush agreed with the Treasury Secretary.  It remains to be seen whether the Solicitor General will file a brief in support of the defendant's position.  The former SEC Commissioners are represented by NYU Professor Arthur Miller.  See WPost, Former SEC Officials Enter Securities Case

July 17, 2007 in News Stories | Permalink | Comments (0) | TrackBack (0)

Dow Jones and News Corp. Reach Tentative Agreement

After months of on-and-off negotiations, the Wall St. Journal announced a tentative agreement for the sale of Dow Jones to News Corp. at the $5 billion price Rupert Murdoch offered last April.  The full board will consider the agreement Tuesday.  Whether enough members of the Bancroft family, which as a group control the company, will vote in favor of the sale remains "too close to call," according to insiders.  WSJ, Dow Jones, News Corp. Set Deal.

July 17, 2007 in News Stories | Permalink | Comments (0) | TrackBack (0)

Law Suit Charges Teachers Professional Association Breached Duty to Members in Recommending Annuities

Gretchen Morgenson reports that the National Education Association, the teachers' professional association, is being sued in Washington State Court, charged with breaching its duty to its members by recommending high-cost annuities in exchange for millions of dollars from two financial firms, National Life Insurance Co. and Security Benefit Group.  Annuities are sold to retirees on the basis of their guaranteed income, and the investors frequently do not understand that their high expenses diminish their return.  The plaintiffs charge that because of their recommendations the NEA became a retirement plan sponsor under ERISA and thus owed their members a fiduciary duty.  See NYTimes, Lawsuit Says Teachers Are Overcharged on Annuities.

July 17, 2007 in News Stories | Permalink | Comments (0) | TrackBack (0)

Citigroup Settles New Jersey Investigation

Citigroup agreed to pay $978,000 to settle a New Jersey investigation that two of its brokers, located in Short Hills, placed their customers, including many elderly investors, in unsuitably risky investment strategies, including short selling.  See NYTimes, Citigroup Agrees to Settlement in New Jersey.

July 17, 2007 in News Stories | Permalink | Comments (0) | TrackBack (0)

Monday, July 16, 2007

The Costs of Defending Securities Crime

Judge Kaplan, in his opinion dismissing the federal charges against 13 defendants in the KPMG tax shelter case, gives us some staggering numbers about what a high-powered defense in a securities criminal case costs: "These have included costs of $14.9 million (Kumar -- Computer Associates), $17.7 million and $8 million for each of two trials (Kozlowski -- Tyco), $24 million (Shelton -- Cendant), $25 million (Rigases -- Adelphia), $32 million (Scrushy -- HealthSouth), and $25 and $70 million (Lay and Skilling, respectively -- Enron)."  All of these, the judge noted, "involved far fewer documents and far shorter trials than this case will require."

July 16, 2007 in News Stories | Permalink | Comments (0) | TrackBack (0)

SEC Obtains TRO Against Alleged Ponzi Scheme

The SEC, on July 12, filed an emergency action to halt an ongoing $45 million securities offering that the SEC alleges to be a Ponzi-like scheme. Named in the Commission's complaint are Terchi Liao (a.k.a. Nelson Liao), of Arcadia, California, and two entities he controls, also of Arcadia, AOB Commerce, Inc. and AOB Asia Fund I, LLC. The Commission's complaint alleges that since mid-2004, the defendants have raised more than $45 million from hundreds of investors nationwide through their unregistered offering and sale of promissory notes that purportedly pay guaranteed interest of up to 5.5% per month.  The complaint also names four other Southern California entities controlled by Liao as relief defendants based on their receipt of investor funds. A United States District Judge for the Central District of California issued a temporary restraining order halting the securities offering, appointing a temporary receiver over AOB Commerce and AOB Asia Fund, and the relief defendants. The court also temporarily froze the assets of the defendants and the relief defendants.

July 16, 2007 in SEC Action | Permalink | Comments (0) | TrackBack (0)

Lear Shareholders Reject Icahn's Buyout

Shareholders of Lear Corp. rejected a board-approved buyout offer from Carl Icahn today.  Although Icahn was persuaded to raise the price from $36 to $37.25, some large shareholders continued to believe the price was too low.  WSJ, Lear Holders Reject Icahn Offer.

July 16, 2007 in News Stories | Permalink | Comments (0) | TrackBack (0)

New York Attorney General Announces Settlement with UBS Over Fee-Based Accounts

The New York State Attorney General announced a $23.3 million settlement with UBS Financial Services for inappropriately steering customers into the fee-based accounts of its InsightOne brokerage program.  It is the largest settlement involving fee-based accounts.  UBS has agreed to reimbuse customers $21.3 million and pay a $2 million penalty.

In the lawsuit, the AG charged that UBS placed thousands of traditional brokerage customers into the fee-based accounts by falsely promising comprehensive and sophisticated financial advice.  In addition, the complaint charged that UBS was aware that the fee-based accounts were unsuitable for many customers who engaged in infrequent trading.  The press release gives a number of horror stories, including a 91-year-old customer who was charged more than $35,000 for four trades over two years.

The D.C. Circuit recently vacated a SEC rule that would have exempted brokerage firms offering fee-based programs from regulation as investment advisers.

July 16, 2007 in Other Regulatory Action | Permalink | Comments (0) | TrackBack (0)

Investors and Management Negotiate Changes in Corporate Policy

This year's proxy season saw more behind the scenes discussions among investors and corporate management about corporate governance issues and less posturing at the shareholders' annual meetings, according to the Wall St. Journal.  Twenty-four percent of shareholder proposals were withdrawn as of July 6, suggesting that changes in policy had been agreed to in advance of the meeting.  At least 70 companies agreed to adopt a majority-vote requirement for directors' elections.  See WSJ, Firms, Investors Trying More Talk, Less Acrimony.

July 16, 2007 in News Stories | Permalink | Comments (0) | TrackBack (0)


What Whole Foods CEO John Mackey did is called sock-puppeting, which the New York Times defines as "creating a fake online identity to praise, defend or create the illusion of support" for one's own self or company.  According to the article, Mackey is not an isolated example, although it does not name very many additional examples from the corporate world besides former Hollinger International CEO Conrad Black (just convicted on four counts of fraud and obstruction of justice), who reportedly posted an item blaming short sellers for the poor performance of the company's stock.  See NYTimes, The Hand That Controls the Sock Puppet Could Get Slapped. 

July 16, 2007 in News Stories | Permalink | Comments (0) | TrackBack (0)

Sunday, July 15, 2007

Park on Securities Regulation

The Competing Paradigms of Securities Regulation, by JAMES J. PARK, Brooklyn Law School, is now available on SSRN.  Here is the abstract:

The securities industry is simultaneously governed by specific rules and general principles. When a rule is violated, the regulatory response is clear, enforce the rule. But what happens when conduct does not violate a rule but violates a principle? A regulator can make it clear through rulemaking that the conduct is prohibited going forward. Or, the regulator can punish the conduct through what I call a “principles-based” enforcement action. This Article examines the differences between rulemaking and principles-based enforcement and proposes criteria to guide regulators in choosing between these regulatory tools in communicating legal norms to the regulated.

The approaches reflect two competing paradigms. Rulemaking reflects the mentality that securities regulation is a technical enterprise that should be left to experts who have created a comprehensive, efficient, administrative scheme. Principles-based enforcement actions reflect the demand that regulators punish conduct violating principles reflecting public values. For the most part, the regulated prefer a predictable regulatory regime, which rulemaking provides, while the public prefers decisive responses, which can be provided by principles-based enforcement actions.

Based on these preferences, public choice theory would predict that regulators are more likely to respond to misconduct not violating a particular rule by aggressively enforcing principles when public influence is high and more likely to respond through rulemaking when the influence of the regulated is high. But this account is too simplistic – while interest groups can be influential, securities regulators are constrained in their regulatory choices by the nature of the evidence establishing the misconduct.

Ideally, in choosing between principles-based enforcement and rulemaking, regulators should take into account both the need for a predictable regulatory regime and the need to punish conduct that violates principles. They should consider: (1) whether the principle being enforced is well-established or novel; (2) whether the application of the principle is consistent with existing rules; (3) the strength and specificity of the evidence establishing the misconduct; and (4) whether the conduct caused foreseeable public harm.

July 15, 2007 in Law Review Articles | Permalink | Comments (0) | TrackBack (0)

Hurt on IPOs and Disintermediation

Initial Public Offerings and the Failed Promise of Disintermediation, by CHRISTINE HURT, University of Illinois College of Law, was recently posted on SSRN.  Here is the abstract:

  At the beginning of this millennium, the future of initial public offerings conducted using an Internet-based auction method in the United States seemed very bright. The Internet, and web-based technologies, promised disintermediation in the IPO markets just as it had in other markets where producers could be linked with consumers without costly intermediaries. In a world in which a buyer would choose to pay a certain price (X) for a product, the producer of that product would prefer to capture as close to 100% of X as possible and not share unnecessarily with intermediaries. The market for initial public offerings is no different from other markets; a small number of investment banks and the underwriters and brokers they employ act as intermediaries that distribute and market offerings for a substantial fee, including a customary discount on the offering price that benefits the intermediaries. However, web-based auction IPOs have the potential of allowing issuers to avoid these investment banks and sell directly to the public at closer to the market price (100% of X), not the bookbuilding underprice (approximately 80% of X), minus the substantial underwriting fee.

However, the number of online auction IPOs each year is miniscule compared with the number of IPOs conducted in the U.S. using the traditional bookbuilding method. Although the market saw an increased number of auction IPOs in 2005, following Google's 2004 auction IPO, the market for online IPO auctions against stalled beginning in 2006. Proponents of these IPOs must explain why the auction IPO model has not challenged, much less replaced, bookbuilding as the dominant offering method in the U.S. This Article argues that although the Internet works well to eliminate intermediaries formerly necessary for distribution, the Internet cannot reliably eliminate intermediaries used by the public for creating demand networks and establishing third-party certification. Because of the power of investment banks and their demand networks, the base market price (X) of any product will be increased (X + Y). Therefore, an issuer must determine whether more profit is to be made by sharing revenues with Wall Street intermediaries and receiving 80% of (X + Y) than capturing 100% of merely X. In addition, to attempt to ignore these powerful Wall Street intermediaries comes with great risk. In certain cases, those who attempt to sidestep intermediaries may find themselves capturing not 100%(X) but 100% of a depressed market price (X-Z). Given this choice, rational issuers will choose the bookbuilding method, which promises .80(X + Y).

July 15, 2007 in Law Review Articles | Permalink | Comments (0) | TrackBack (0)

Saturday, July 14, 2007

SEC Opens Inquiry into Whole Foods CEO's Postings

It is reported that the SEC has opened an investigation into Whole Foods CEO John Mackay's online postings.  WSJ, SEC Opens Informal Inquiry Of Whole Foods CEO Postings.  Would any of them constitute "material misstatements" for purposes of Rule 10b-5? While many of them are opinions (he likes the new Whole Foods salad dressing), statements of obvious facts (Whole Foods is not WalMart's), or just stupid or silly (his views on politics, equal opportunity, his haircut) a few do involve very specific predictions of future performance (will hit $10 million sales target by end of decade) which could be actionable if found to be false and misleading.

What if these statements differ materially from official public statements from the company?  Several news accounts have speculated that there could be a Regulation FD violation here.  Regulation FD prohibits selective disclosure of corporate information by senior corporate officers.  It was enacted to deal with management's disclosures to favored analysts ahead of the market.  The rule is quite specific in its application and identifies the recipients of the information -- brokers and dealers, investment advisers, investment companies, or someone who is a "holder of the issuer's securities, under circumstances in which it is reasonably foreseeable that the person will purchase or sell the issuer's securities on the basis of the information."  Would the latter cover readers of the bulletin board on which these messages were posted?  The few judicial interpretations of Regulation FD have not embraced an aggressive interpretation of the rule. 

I agree with others who have said the serious issue here goes to the quality of Mackey's judgment and whether he has the appropriate temperament to manage a public corporation.  It has been reported that the postings stopped sometime last year; does this mean that Mackey came to realize how inappropriate these postings were?  In any event, I hope the board of directors of Whole Foods is spending some substantial time in reviewing this situation and assessing Mackey's leadership abilities.

July 14, 2007 in News Stories | Permalink | Comments (0) | TrackBack (0)

Friday, July 13, 2007

NASAA Testifies on Risks to Retail Investors of Hedge Fund Offerings

North American Securities Administrators Association (NASAA) President Joseph P. Borg told a Congressional panel on July 11 that allowing public offerings of private equity and hedge fund management firms without appropriate regulatory protections puts retail investors at risk.

“Due to a lack of transparency, the level of individual and systemic risk attached to these investments remains unknown to the individual investor. Their fee structures and lack of full disclosure obscure real returns. The structure of these new instruments places investors in a vulnerable position, subject to the whims of controlling persons and literally without recourse.  In light of the complexity and uncertainty surrounding these instruments, allowing them to be offered to the public without appropriate regulatory protections poses serious risks to investors,” Borg said.

Borg’s remarks came during testimony before the U.S. House of Representatives Committee on Oversight and Government Reform Subcommittee on Domestic Policy during a hearing examining the possible risks presented to retail investors by the recent Blackstone Group L.P. and similar upcoming initial public offerings of the management entities of hedge funds and private equity funds.  His testimony is on the NASAA website.

July 13, 2007 in Other Regulatory Action | Permalink | Comments (0) | TrackBack (0)

Conrad Black Guilty on Four Counts

Former Hollinger Internatonal CEO Conrad Black was found guilty today of three counts of mail fraud and one count of obstruction of justice.  He was acquitted of nine other counts, including racketeering and misuse of corporate perquisites.  He faces a maximum sentence of 35 years in prison and a $1 million penalty.  While there were Tyco-like allegations of fancy parties and vacations at the company's expense, the central allegations related to payments made by buyers of newspapers from Hollinger International in exchange for its promises not to compete.  These payments instead went to Black and other corporate executives.  The government's case was by no means an easy one to prove, as Black's attorney presented evidence that the payments to the individuals were disclosed in documents approved by the board and as the testimony of individual directors raised serious questions about their due diligence.  Earlier in the week the jury informed the judge that it was deadlocked on one or more counts, and she urged them to continue deliberations.  See WSJ, Jury Delivers Mixed Verdict In Fraud Trial of Conrad Black.

July 13, 2007 in News Stories | Permalink | Comments (0) | TrackBack (0)

New York State Court Dismisses Some Charges Against H&R Block

H&R Block announced that a New York state court had dismissed allegations against the corporate parent and five units in a lawsuit brought by the New York Attorney General charging excessive fees in IRA accounts.  It says it plans to appeal the court's decision to allow some charges against H&R Block Financial Advisers to go forward.  See NYTimes, Judge Mostly Clears Block.

July 13, 2007 in News Stories | Permalink | Comments (0) | TrackBack (0)