Securities Law Prof Blog

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

Wednesday, September 26, 2007

SEC Charges Hedge Fund Manager with Fraud

The SEC charged a San Francisco hedge fund manager with defrauding investors by dramatically overstating the fund's profitability and misusing fund assets. The Commission alleges that Alexander James Trabulse sent account statements to investors in his Fahey Fund that inflated the fund's returns by as much as 200 percent, while using investor money to purchase cars and finance shopping sprees for his family members.  According to the Commission's complaint, filed today in federal district court in San Francisco, Trabulse founded the Fahey Fund in 1997 and raised about $10 million from approximately 100 investors. He told investors the fund invested in financial instruments like stocks, derivatives, and foreign currency. The complaint alleges that Trabulse lured investors by touting the fund's spectacular performance, when in reality the statements he provided to investors bore no relation to the fund's actual performance.

The Commission also alleges Trabulse misused fund assets to pay for a wide variety of personal expenses, using the fund's bank account to pay for cars, a home theater system, and his ex-wife's overseas shopping allowance. He even gave one relative free reign to use the fund's bank accounts for personal use, according to the Commission.

The Commission's complaint alleges Trabulse violated the antifraud and registration provisions of the federal securities laws, and seeks disgorgement, penalties, and other relief. The Commission also has named as relief defendants several entities associated with Trabulse that received assets through Trabulse's fraud.

September 26, 2007 in SEC Action | Permalink | Comments (0) | TrackBack (0)

FINRA Proposes Rule to Limit Dispositive Motions in Arbitration

FINRA announced today that its Board of Governors approved rule amendments designed to limit significantly the number of dispositive motions - more commonly known as motions to dismiss -- filed in its arbitration forum and to impose strict sanctions against parties who engage in abusive motions practices. Under FINRA's proposal, if a party (typically a respondent firm) files a dispositive motion before a claimant finishes presenting its case, the arbitration panel would be limited to three grounds on which to grant the motion: if the parties settled their dispute in writing; "factual impossibility," meaning the party could not have been associated with the conduct at issue; or the existing 6-year time limit on the submission of arbitration claims. The rule proposal also would require that arbitrators hold a hearing on such motions and that any decision to grant a motion to dismiss be unanimous, and be accompanied by a written explanation.

The proposed amendments also would require the panel to assess against the filing party all forum fees associated with hearings on dispositive motions if the panel denies the motion, and would require the panel to award costs and attorneys' fees to the party that opposed a dispositive motion deemed frivolous by the panel. Under the rule proposal, when a respondent files a dispositive motion after the conclusion of the claimant's case, the provisions above would not apply. However, the rule would not preclude the arbitrators from issuing an explanation or awarding costs or fees.

The rule amendments now go to the Securities and Exchange Commission for review and approval.

September 26, 2007 in Other Regulatory Action | Permalink | Comments (0) | TrackBack (0)

Treasury Appoints Two Panels to Study Hedge Funds

The Treasury Dept. announced two groups that will study hedge funds and propose voluntary good practices to minimize risks and improve disclosure.  One committee is composed of asset managers, the other, investors.  They are supposed to release their guidance by year-end.  WPost, U.S. Aims to Limit Funds' Risk; NYTimes, Two Panels to Advise on Hedge Funds

September 26, 2007 in News Stories | Permalink | Comments (0) | TrackBack (0)

Clear Channel Shareholders Approve Buyout

Clear Channel shareholders finally approved the company's buyout by a private equity firm.  The deal was announced last November, but the price was renegotiated more than once as shareholders deemed it too low.  A two-thirds shareholder vote was required under state law.  The final price was $39 in cash or stock of the private company.  WPost, Clear Channel Shareholders OK Buyout; NYTimes, Clear Channel Shareholders Approve Buyout

September 26, 2007 in News Stories | Permalink | Comments (0) | TrackBack (0)

Borse Dubai Raises Bid for OMX

Borse Dubai and Nasdaq continue to compete with Qatar Investment Authority for control of Nordic exchange operator OMX AB.  Yesterday Borse Dubai increased its bid to the equivalent of $40.76 per share and reduced its minimum acceptancce from more than 90% to more than 50%.  WSJ, Borse Dubai Raises Cash Offer for OMX.

September 26, 2007 in News Stories | Permalink | Comments (0) | TrackBack (0)

Tuesday, September 25, 2007

SEC Adopts Temporary Rule on Principal Trades

On September 24, the SEC issued a release adopting  an  interim final temporary rule under the Investment Advisers Act of 1940 as part of its response to a recent  court  decision  of  the  U.S.  Court  of Appeals for the District of Columbia  Circuit  in  Financial  Planning Association v. SEC (482 F.3d 481 (D.C.  Cir.  2007)),  which  provided that fee-based brokerage accounts were not advisory accounts and  were thus not subject to the Advisers Act. The temporary rule  provides  an alternative method for investment advisers that  are  registered  with the Commission as broker-dealers to meet the requirements of  Advisers Act section 206(3) when they act in a principal capacity with  respect to transactions with certain of their advisory clients.

The effective date of the rule  is  Sept.  30,  2007.  Absent  further Commission action, the temporary rule will expire  and  no  longer  be effective on Dec. 31, 2009.

September 25, 2007 in SEC Action | Permalink | Comments (0) | TrackBack (0)

SEC Proposes Interpretive Rule for Broker Dealers and Investment Advice

The SEC released for public comment an interpretive rule that would reinstate three interpretive provisions of a rule recently vacated by the D.C. Circuit.  (1) A broker dealer that exercises investment discretion or charges a separate fee for advisory services provides investment advice that is not "solely incidental to" the broker dealer business; (2) a broker dealer does not receive "special compensation" because it has a two-tier pricing system, one for discount brokerage business and another for full-service brokerage business; (3) a broker dealer is an investment adviser solely with respect to those accounts for which it provides services or compensation.

September 25, 2007 in SEC Action | Permalink | Comments (0) | TrackBack (0)

SEC Settles Bribery Charges Against EDS and Former President of Subsidiary

The SEC announced today that it filed a settled civil action against Chandramowli Srinivasan, the former president of A.T. Kearney India (ATKI), which was a subsidiary of Electronic Data Systems Corp. (EDS) at the time, relating to his role in a bribery scheme. The Commission's complaint against Srinivasan states that between early 2001 and September 2003, ATKI made at least $720,000 in illicit payments to senior employees of Indian state-owned enterprises to retain its business with those enterprises. ATKI made these payments at the direction of Srinivasan after the senior employees threatened to cancel the contracts with ATKI. Srinivasan, on a neither admit nor deny basis, consented to the entry of a final judgment enjoining him from violating Sections 13(b)(5) and 30A of the Securities Exchange Act of 1934 (Exchange Act) and ordering him to pay a $70,000 penalty.

In a separate but related action, the Commission today instituted administrative proceedings against EDS for various violations of the issuer reporting and books-and-records provisions of the federal securities laws. Simultaneously with the institution of the proceedings, EDS consented to the entry of an SEC cease-and-desist order that provides for disgorgement and prejudgment interest of $490,902. The Commission order found that EDS engaged in the following misconduct:

September 25, 2007 in SEC Action | Permalink | Comments (0) | TrackBack (0)

SEC Announces Data Tags for GAAP

SEC Chairman Christopher Cox announced the completion of all work on developing data tags for the entire system of U.S. generally accepted accounting principles. The announcement came at a New York press conference attended by Chairman Cox, whose agency has strongly supported the use of data tags in financial reporting by U.S. public companies.  "What colloquially is termed "interactive data" is the use of computer-coded "tags", written in the XBRL computer language, that each correspond to a unique accounting concept. The use of the tags makes it possible for investors, analysts, and others to download financial reports filed with the SEC directly into spreadsheets in Excel and other popular software, and to use other web tools and specialty software to do instant financial comparisons across entire industries. The SEC has committed to transform its vast database of financial information, nicknamed EDGAR, into interactive data format.

For over two years, the SEC has permitted public companies to file their financial reports with the agency in interactive data format, as part of a pilot program. Recently, the market capitalization of companies participating in the voluntary program topped $2 trillion. The collection of data tags being used for current filings on the SEC's EDGAR system, however, is relatively simplistic, using approximately 2,500 unique elements. That has required many companies to write their own custom tags, called extensions, to accurately represent their statements.

The work that was completed today has mapped every element of the entire system of U.S. Generally Accepted Accounting Principles, administered by the Financial Accounting Standards Board in Norwalk, CT, to a unique data tag. The achievement of this milestone means that public companies can more easily tag their financials. And it brings automated financial reporting to the SEC — as well as increased usability of financial statement for investors — one step closer to reality.

A review for GAAP compliance by the FAF (Financial Accounting Foundation) is nearing completion, and critical stakeholder groups including analysts, public company preparers and software providers will be reviewing the draft taxonomies first, before a broad-based public review is initiated.

September 25, 2007 in SEC Action | Permalink | Comments (0) | TrackBack (0)

SEC Approves 7 Ratings Agencies

Securities and Exchange Commission issued orders granting the registrations of seven credit rating agencies as nationally recognized statistical rating organizations (“NRSRO”). The firms are the first to be registered with the Commission under the Credit Rating Agency Reform Act of 2006.  The seven firms registered as NRSROs are:

A.M. Best Company, Inc.
Fitch, Inc.
Japan Credit Rating Agency, Ltd.
Moody’s Investors Service, Inc.
Rating and Investment Information, Inc.
Standard & Poor’s Ratings Services

The Credit Rating Agency Reform Act and the Commission’s new rules require registered credit rating agencies to disclose their procedures and methodologies for assigning ratings. The NRSROs are also required to make public certain performance measurement statistics including historical downgrades and default rates.

Under the Credit Rating Agency Reform Act, an NRSRO may be registered with respect to up to five classes of credit ratings: (1) financial institutions, brokers, or dealers; (2) insurance companies; (3) corporate issuers; (4) issuers of asset-backed securities; and (5) issuers of government securities, municipal securities, or securities issued by a foreign government. A.M. Best Company, Inc., is registered with respect to the first four classes of credit ratings; the other six firms are registered with respect to all five classes.

By October 8, 2007, each of these NRSROs is required to make public on its web site its current Form NRSRO and non-confidential exhibits.

In a related story, the SEC is looking into the rating agencies' procedures and policies and their slow response to the subprime mortgage crisis., Fresh Start? SEC Re-anoints Rating Agencies

September 25, 2007 in SEC Action | Permalink | Comments (0) | TrackBack (0)

Different Views on SEC Proposal to Allow International Accounting Standards

The SEC's proposal to allow foreign companies to use international accounting standards in SEC filings is under criticism by two groups.  The European Association of Listed Companies says the SEC proposal does not go far enough and should accept modifications from the European Commission.  In contrast, the Investors Technical Advisory Committee  says there is not yet sufficient similarity between GAAP and international standards and that confusion will result without reconciliation of differences.  NYTimes, A Plan to Let S.E.C. Accept Foreign Rules Is Opposed.

September 25, 2007 in News Stories | Permalink | Comments (0) | TrackBack (0)

Corporations Don't Disclose Greenhouse Gas Emissions

The Carbon Disclosure Project, a nonprofit group that monitors corporate disclosure related to climate change, released its Fifth Annual Report to great fanfare, with a keynote address by Bill Clinton.  The Report says that corporate efforts to curb greenhouse gas emissions has improved, but few companies include climate-related data in their SEC filings.  NYTimes, Gas Emissions Rarely Figure in Investor Decisions.  Last week a number of groups filed a petition with the SEC asking the agency to issue an interpretive release clarifying that material climate-related information must be included in corporate disclosures.

September 25, 2007 in News Stories | Permalink | Comments (0) | TrackBack (0)

Monday, September 24, 2007

SEC and FRB Adopt Final Broker Exceptions for Banks

The SEC and Board of Governors of the Federal Reserve System (Board) on Monday announced the adoption of final joint rules to implement the "broker" exceptions for banks under Section 3(a)(4) of the Securities Exchange Act of 1934. These exceptions were adopted as part of the Gramm-Leach-Bliley Act of 1999 (GLB Act). The SEC and the Board approved the final rules at separate open meetings held on September 19, 2007, and September 24, 2007, respectively.  The rules are found in two SEC Releases: 34-56501 and 34-56502.

September 24, 2007 in SEC Action | Permalink | Comments (0) | TrackBack (0)

SEC Settles Market Manipulation Charges Involving Brokerage Firm

The SEC filed a settled enforcement action against Florida residents Paul Harary and Douglas Zemsky for their involvement in an alleged $4.4 million market manipulation and kickback scheme that defrauded customers of a Boca Raton brokerage firm.

The SEC's complaint alleges that in 2004 and 2005:

Harary, 43, and a Florida stockbroker defrauded the stockbroker's customers by acquiring control of two shell companies, creating an artificial market for those companies' common stock, and manipulating the price of that stock using pre-arranged matched orders.
Another perpetrator, Zemsky, 44, identified and purchased the shell companies and coordinated matched orders to start the trading in one of them at a pre-arranged, artificial price.
The Florida stockbroker created the demand for the stock in the two firms by purchasing it for his firm's customers, while Harary controlled the supply of the unrestricted shares and sold them.
Other investors, who purchased shares of one of the shell companies on the open market but who were not customers of the brokerage firm, also lost money because Harary manipulated the share price of that company's stock.
Harary made more than $4.4 million in proceeds on his sales of these stocks and then provided the Florida stockbroker more than $1 million in kickbacks through a series of cash handoffs and checks.
The customers of the Florida stockbroker were left with worthless shares of the shell companies and lost approximately $3.8 million.
According to the SEC's complaint, the two shell companies were Secure Solutions Holdings, Inc. (SSLX) and American Financial Holdings, Inc. (AFHJ). Each traded on the over-the-counter market and was quoted on the Pink Sheets.

The U.S. Attorney for the District of Columbia announced that Harary pleaded guilty to conspiracy to commit mail and wire fraud in a parallel criminal action brought in the United States District Court for the District of Columbia. See United States v. Harary, Crim. No. 07-Cr.-209 (EGS) (D.D.C.).

September 24, 2007 in SEC Action | Permalink | Comments (0) | TrackBack (0)

SEC Settles Charges in Bank Conversion Fraud

The SEC charged Mark Ristow, a retired Indiana real estate entrepreneur, and two of his relatives with securities fraud for defrauding savings banks and their depositors in connection with the banks' conversion from mutual to stock ownership.

When banks convert to stock ownership, depositors receive priority rights to purchase shares at a low price. Banking regulations and offering terms limit the number of shares a depositor may purchase and prohibit transfer of the depositor's purchase rights.

The SEC's complaint alleges that, from 1994 to 2007, Ristow orchestrated a scheme to circumvent the limitations on stock purchases in 23 bank conversions. Ristow's scheme generated more than $3 million in profits through the sale of the bank stock that he had illegally obtained. The other defendants are Ristow's cousin Andrew Crabb and Ristow's sister-in-law Susan Gitlin. In return for a share of the profits, they assisted Ristow by acting as his nominees, thus enabling Ristow to purchase even more shares. Because the offerings were oversubscribed, the defendants' fraud harmed legitimate depositors who received fewer shares than they otherwise would have. All three of the defendants have agreed to settle the SEC charges in whole or in part.

Earlier today, Ristow pled guilty to parallel criminal charges filed by the United States Attorney's Office for the District of New Jersey. In connection with his guilty plea, Ristow agreed to pay a total of $2.85 million in forfeiture, representing his own illegal profits from the scheme

September 24, 2007 in SEC Action | Permalink | Comments (0) | TrackBack (0)

SEC Charges Former Football Player with Destroying Investment Advisory Records

The SEC today charged investment adviser and former NFL player Dwight Sean Jones with failing to allow the Commission staff to examine his business records, as required by the federal securities laws.  In the administrative proceeding instituted today, the Commission's Division of Enforcement alleges that Jones — who at one point claimed to manage more than $40 million in assets for his clients (primarily athletes) — refused to produce or allow the inspection of his advisory business records. After repeatedly failing to respond to the Commission staff, the Division alleges, Jones ultimately claimed that all his records had either been destroyed in a fire or inadvertently sold by a storage company.

In the Order Instituting Proceedings, the Division of Enforcement alleges that Jones and his firm, Amaroq Asset Management, failed to make documents available for review by the Commission's staff as required by law. The Order also alleges that although Jones claims that Amaroq discontinued business in 2004, Amaroq continued to maintain a website until mid-2007 touting its wealth management programs and that it was "subject to periodic SEC examinations." However, the Order alleges that Jones (a resident of Missouri City, Texas, although Amaroq purports to maintain a Beverly Hills, Calif. address) failed to permit the examination of Amaroq's records and later told the Commission staff that the $44 million advisory business no longer possessed any records whatsoever.

An administrative hearing will be scheduled to determine whether remedial actions are appropriate.

September 24, 2007 in SEC Action | Permalink | Comments (0) | TrackBack (0)

Bausch & Lomb Shareholders Approve Buyout

Bausch & Lomb shareholders approved a $3.7 billion buyout by Warburg Pincus, a week after four proxy advisers recommended shareholder approval, with reservations, of the $65 per share all-cash offer.  Advanced Medical Optics had previously made a $4.3 billion offer ($45 cash, $30 stock), but withdrew the offer after the B&L board refused its request for more time.  WSJ, Bausch Shareholders Approve
Takeover by Warburg Pincus.

September 24, 2007 in News Stories | Permalink | Comments (0) | TrackBack (0)

Sunday, September 23, 2007

Birdthistle on ETFs

The Fortunes & Foibles of Exchange-Traded Funds, by WILLIAM A. BIRDTHISTLE, Chicago-Kent College of Law, was recently posted on SSRN.  Here is the abstract:

One of the most dynamic and complex new investment vehicles on the market today is the exchange-traded fund, a security that provides the diversification of a mutual fund but trades on an exchange like a stock. In just over a decade, the number of ETFs has proliferated to well over 500, attracting almost half a trillion dollars in investment. Most of that growth has occurred in just the past two years, and ETFs are projected to continue growing at a pace far faster than hedge funds and mutual funds in the coming years. Yet for all this extraordinary growth, legal scholars have virtually ignored ETFs.

This Article seeks to establish a descriptive and conceptual framework for the scholarly discussion of these funds as they gain ever-greater prominence, for good or for ill, in the coming years. By exploring the structure, advantages, and shortcomings of ETFs, this Article explains the implications of the dramatic growth of ETFs.

Using a novel pricing mechanism that harnesses the utility of arbitrage, ETFs provide investors with accuracy, efficiency, tax advantages, and a range of investment choices, while insulating investors from the structural problems with mutual funds. Yet critics decry their brokerage fees and their vulnerability to harmful short-term trading. This article argues that the mutual fund industry and its recent spate of dramatic scandals contributed to the growth of ETFs and concludes that mutual funds offer vivid warnings of the conflicts of interest that may come to afflict the ETF industry as it continues to grow.

September 23, 2007 in Law Review Articles | Permalink | Comments (0) | TrackBack (0)

Stout on Dodge v. Ford

Why We Should Stop Teaching Dodge v. Ford, by LYNN A. STOUT, University of California, Los Angeles - School of Law, was recently posted on SSRN.  Here is the abstract:

What is the purpose of a corporation? To many people the answer to this question seems obvious: corporations exist to make money for their shareholders. Maximizing shareholder wealth is the corporation's only true concern, its raison d'etre. Devoted corporate officers and directors should direct all their efforts toward this goal.

Some find this picture of the corporation as an engine for increasing shareholder wealth to be quite attractive. Nobel Prize-winning economist Milton Friedman famously praised this view of corporate purpose in his 1970 essay in the New York Times, The Social Responsibility of Business Is to Increase Its Profits (Friedman 1970). To others, the idea of the corporation as a relentless profit-seeking machine seems less appealing. In 2004, Joel Bakan published The Corporation: The Pathological Pursuit of Profit and Power, a book accompanied by an award-winning film documentary of the same name. (Bakan 2004). Bakan's thesis is that corporations are indeed dedicated to maximizing shareholder wealth, without regard to law, ethics, or the interests of society. This means, Bakan argues, corporations are dangerously psychopathic entities.

Whether viewed as cause for celebration or for concern, the idea that corporations exist only to make money for shareholders is rarely subject to challenge. (Although there is a tradition of scholarly debate on this point among legal academics, it has attracted little attention outside the pages of specialized journals.) (Stout at 1189-90 (2002).) Much of the credit - or perhaps more accurately, the blame - for this state of affairs can be laid at the door of a single judicial opinion. That opinion is the 1919 Michigan Supreme Court decision in the case of Dodge v. Ford Motor Co.

September 23, 2007 in Law Review Articles | Permalink | Comments (0) | TrackBack (0)

Prentice on Scheme Liability

Scheme Liability, Federal Securities Fraud, and John Wayne's I-Pod, by ROBERT A. PRENTICE, University of Texas at Austin - McCombs School of Business, was recently posted on SSRN.  Here is the abstract:

The Supreme Court held in Central Bank that if Congress had wanted to include an aiding and abetting form of secondary liability in Section 10(b of the 1934 Securities Exchange Act), it would have done so. Strictly construed, this is a defensible holding. After Central Bank, defrauded investors have been forced to (a) argue for a broad view of primary liability, and (b) assert "scheme liability" claims under subsections (a) and (c) of Rule 10b-5. Most lower courts have rejected both these approaches and thereby excused from liability many parties, particularly investment banks, that knowingly participated in issuers' securities fraud.

This article initially demonstrates that Congress did not include an aiding and abetting provision as a form of secondary liability under Section 10(b) because it necessarily expected "aiding" or "aiding and abetting" of securities fraud to constitute a primary violation of Section 10(b) with or without any explicit mention in the statute. In 1934, the common law of fraud and virtually every statutory antecedent of Section 10(b) imposed liability upon those who "participated" in fraud. The law of intentional torts in 1934 made virtually no distinction between primary and secondary liability. Aiding and abetting as a form of secondary activity in the field of securities fraud was invented by the lower federal courts in 1966. It became meaningful only after 1994 when lower courts began applying Central Bank's reasoning in a narrow way. Lower courts have been able to justify their narrow interpretation of Central Bank's holding only by committing the anachronistic error of assuming that the law of deceit was the same in 1934 as in 1994. The Supreme Court has often warned against the making of such anachronistic errors.

This article then demonstrates the unquestionable validity of "scheme liability" under subsections (a) and (c) of Rule 10b-5. The lower courts that have rejected scheme liability have misread Central Bank, ignored the plain language of both Section 10(b) and Rule 10b-5, and committed a host of other mistakes.

September 23, 2007 in Law Review Articles | Permalink | Comments (0) | TrackBack (0)