Securities Law Prof Blog

2d Circuit Opinion on Accountant's Liability

The Second Circuit held, in Overton v. Todman & Co., 2007 WL 574623 (2d Cir. 2/26/2007), that an accountant has a "duty to correct" and can be held primarily liable for securities fraud when it provides a certified opinion containing false and misleading statements, subsequently learns (or is reckless in not learning) that the statements were false and misleading, knows (or should know) that investors are relying on that opinion, and fails to take reasonable steps to correct or withdraw its opinion. 

SEC Investigation into TXU Options Trades

Is it insider trading or just good reading of the tea leaves? The SEC announced that it froze $5.3 million in profits from trading in TXU options a few days before the Feb. 26 announcement of the TXU buyout.  The money is held in accounts of several large brokerage firms.  See NYTimes, U.S. Is Investigating Trades Made Just Before TXU Deal  and WSJ, TXU Trading Ahead of Deal Is Scrutinized.

Accounting/Stock Sales Investigation at New Century Financial

We have been reading a lot recently about problems in the subprime lending industry as the housing market went south and its impact on the stock market.  Now New Century Financial Corp., the biggest mortgage company that specializes in subprime lending, announces big problems.  Both the U.S. Attorney and the SEC are looking into financial irregularities and insider stock sales.  Yesterday the company said that it would not be filing its annual report on time, after a Feb. 7 announcement that it would restate its earnings for the last three quarters.  See NYTimes, Authorities Investigate Big Lender and WSJ, Subprime Troubles Grow.

Settled SEC Action in Connecticut Fraud Action

The SEC announced that on Feb. 27, 2007, the  Connecticut federal district court entered a final judgment by consent in a  fraud action filed by the Commission against Charles B. Spadoni, the  former vice-president and general counsel of Triumph Capital Group, an investment firm.  In the complaint filed against Spadoni and ten other  defendants,  the Commission had alleged that Paul J. Silvester, the former Treasurer of the State of Connecticut, agreed  to  invest  $200  million  of  state pension funds with Triumph  in  November  1998;  in  return,  Triumph, through Spadoni and the firm's chairman, agreed to provide  consulting contracts  valued  at  approximately  $1  million  each  to   two   of Silvester's friends.  In an earlier criminal proceeding, a jury found Spadoni guilty of various charges,  including  racketeering and racketeering conspiracy concerning acts of bribery and obstruction of justice, theft/bribery concerning programs receiving federal funds, and wire fraud/theft of honest services. On Oct. 27, 2006,  the  court sentenced Spadoni to 36 months imprisonment and ordered him to  pay  a fine of $50,000.

Kmart Defendants Settle with SEC

The SEC announced that it  settled  charges  against  the final two defendants in  its  case  against  several  individuals  for causing Kmart to improperly account for millions of dollars  worth  of   vendor "allowances." Kmart obtained allowances from  its  vendors  for various promotional and marketing activities. According to  the  SEC'S complaint, Kmart executives and employees of  Eastman  Kodak  Company, Coca  Cola  Enterprises   Inc.   and   PepsiCo   Inc.'s   wholly-owned subsidiaries, Pepsi-Cola Company and Frito-Lay, Inc., caused Kmart  to  recognize allowances prematurely on the  basis  of  false  information   provided to the company's accounting department.

On Dec.  2,  2004,  the  SEC  announced  settlements  with  two  Kmart  executives and three vendor defendants. The three non-settling defendants were John Paul Orr, former Divisional Vice President of Kmart's photo division, David C.  Kirkpatrick,  former  National  Sales  Director  for   Coca   Cola Enterprises, Inc., and  David  N.  Bixler,  a  former  National  Sales Director of PepsiCo's Pepsi-Cola Division. On March 6, 2006, the  U.S.  District Court for the Eastern District of Michigan  granted  Bixler's motion to dismiss in its entirety and granted  Orr  and  Kirkpatrick's motions to dismiss in part. Without admitting or denying the charges  against  him,  Orr  has  now agreed to settle by consenting to an administrative order to cease and  desist from committing or causing violations of  Rule  13b2-1.  Without  admitting  or denying the charges against him, Kirkpatrick has agreed to  settle  by paying a $25,000 civil penalty and by consenting to an  administrative order to cease and desist from committing  or  causing  violations  of Rule 13b2-1 of the Exchange Act and causing any  violations  and  any future violations of Section 13(a) of the Exchange Act .

Trading Phase of Reg NMS Begins on March 5

Statement of SEC Division of Market Regulation Director Erik Sirri Regarding the Start of the Trading Phase of Compliance With Regulation NMS on Monday, March 5, 2007:

On Monday, March 5, 2007, exchanges and electronic communication networks (ECNs) will begin complying with the Trading Phase of Regulation NMS. The Trading Phase was designed to identify and work out any problems before full effectiveness of Regulation NMS. Beginning March 5, 2007, the exchanges and ECNs participating in the Alternative Display Facility of the NASD will implement policies and procedures reasonably designed to prevent trade-throughs of better-priced protected quotations displayed by other exchanges and ADF participants. On July 9, 2007, securities firms also will comply with the trade-through provisions of Regulation NMS for 250 pilot stocks

SEC's Sirri Speaks on Regulation of Foreign Exchanges and Brokers

Erik R. Sirri, Head of Market Regulation, SEC, spoke on March 1 on Trading Foreign Shares, in which he recognized that:

foreign financial services companies have been increasingly reaching out to U.S. institutions pursuant to conditional exemptions from broker-dealer registration. But as the ease at dealing from overseas with U.S. persons has grown, and regulatory oversight in foreign jurisdictions has evolved, foreign securities firms and markets have inquired about access to U.S. markets without U.S. regulation, based on the nature and quality of their supervision. I believe the time has come to reconsider our approach and to allow access under conditions that protect U.S. investors and maintain the integrity of U.S. markets.

He goes on to set forth a cooperative approach to using the SEC's exemptive power in the regulation of foreign exchanges and foreign broker-dealers.

Nabors Reports BackDating

Nabors Industries announced that an internal review showed that some stock option grants from 1991-1997 had been backdated, Grantees on the relevant dates included to its CEO, Eugene Isenberg.  Nabors had previously said there was no backdating.  The committee of independent directors who conducted the internal review included a member of the Compensation Committee that awarded some of the grants in question.  See WSJ, Nabors's Review Confirms Misdated Options Grants.

Black is Back

Lord Conrad Black, former CEO of Hollinger International, is back in the news.  The Sun-Times Media Group (the former Hollinger Int'l under new management) announced that some option grants between 1999-2002 were backdated, including some to Black.  See WSJ, Black's Troubles Deepen.

ISS Backs HP Proxy Access Proposal

ISS backs the "proxy access" shareholders' proposal on the Hewlett Packard proxy statement, which would permit investors owning at least 3% of the stock for two years to nominate up to two directors.  The shareholders meeting is set for March 14.  See WSJ, Adviser Backs Holders' Bid
To Gain Sway on H-P Board.

Thomas' Statement on Wall St. Insider Trading Ring

The big news at the SEC today was its announcement of the alleged insider trading ring involving 14 defendants, who included Wall St. professionals, an attorney and hedge funds.  Linda Chatman Thomas made a statement, in which she emphasized the magnitude of the alleged trading ring and that these were employees at elite Wall St. firms, who took steps to cover their tracks.  She warned:

Today's case demonstrates the Commission's resolve and ability to aggressively investigate and prosecute insider trading. I think it is worth noting that in both of the schemes alleged in our complaint -- the "UBS Scheme" and the "Morgan Stanley Scheme" - the original tippers, Mr. Guttenberg and Ms. Collotta, took steps to evade detection. Neither traded in their personal accounts. Both received kickbacks that were paid in cash. In fact, Mr. Guttenberg and his tippees even used disposable cell phones, secret codes, and discreet meeting places to attempt to conceal their actions.

Some defendants may have thought they were flying "under the radar" by making modest profits on individual transactions, secure in the knowledge that, over hundreds of tips, they would reap millions of dollars in illicit trading profits. And yet - despite their best efforts to avoid detection - we caught them.

Today's events should send a message to anyone who believes that illegal insider trading is a quick and easy way to get rich. No matter how clever you are, no matter how hard you try to avoid detection, you underestimate us at your peril. We are passionate about protecting investors and the integrity of our markets. And if we catch you, we will use all resources at our disposal to hold you accountable.

Penny Stock Fraud

The SEC announced it obtained a final judgment  against  Defendants Charles S. Flemming, and  his  companies,  Ashlin Capital, LLC, and Kyoto Capital Group, LLC, for their role in a scheme to evade the registration provisions of the Securities  Act  of  1933.  The SEC alleged that Flemming obtained 102 million shares of U.S. Wind Farming stock in  an unregistered offering and then  directed the sale of the shares into the public market.  Flemming kick-backed proceeds from the sales to Wind Farming. The Final  Judgment permanently enjoins Flemming, Ashlin Capital, and Kyoto Capital Group from violating the registration provisions of the  federal  securities law and permanently  bars  them  from  participating  in  penny  stock offerings. 

Default Judgment Against Attorney

The SEC announced it obtained a default judgment against Defendants Michael D. Spadaccini, of Austin, Texas, and his company, Oronex, LLC, for their role in a scheme to evade the registration provisions of the Securities Act of 1933.  The  SEC  alleged  that  Spadaccini,  through Oronex, obtained 500,000 shares of  U.S.  Wind  Farming  stock  in  an unregistered offering. Spadaccini, an attorney,  purportedly  received those shares as payment for legal services. He then quickly  sold the shares into the public market. The Final Judgment permanently  enjoins Spadaccini and Oronex from violating the  registration  provisions  of the federal securities law.

Georgetown Law's Corporate Counsel Institute

Georgetown Law’s Eleventh Annual Corporate Counsel Institute

March 8-9, 2007

WHO: Christopher Cox
Chairman, U.S. Securities and Exchange Commission
"Priorities for 2007 at the SEC"
Paul McNulty
Deputy Attorney General, U.S. Department of Justice
"DOJ Enforcement Priorities"

Linda Chatman Thomsen
Director, Division of Enforcement, U.S. Securities and Exchange Commission
"Developments at the SEC"
(Thomsen is expected to make a major SEC policy announcement.)

Daniel Petrocelli
Partner, O’Melveny & Myers LLP
"Lessons from Enron"

Further information.

SEC Charges Wall St. Professionals and Hedge Funds in "Brazen" Insider Trading Scheme

The SEC charged 14 defendants in a brazen insider trading scheme that netted more than $15 million in illegal insider trading profits on thousands of trades, using information stolen from UBS Securities LLC and Morgan Stanley & Co., Inc. The SEC complaint alleges that eight Wall Street professionals, including a UBS research executive and a Morgan Stanley attorney, two broker-dealers and a day-trading firm participated in the scheme. The defendants also include three hedge funds, which were the biggest beneficiaries of the fraud.

"Our action today is one of several that will make very clear the SEC is targeting hedge fund insider trading as a top priority," said SEC Chairman Christopher Cox.  See SEC Charges 14 in Wall Street Insider Trading Ring.

The scheme involved unlawful trading ahead of upgrades and downgrades by UBS research analysts and corporate acquisition announcements involving Morgan Stanley's investment banking clients. The ringleaders of the UBS part of the scheme went to great lengths to hide their illegal conduct, first through a clandestine meeting at Manhattan's famed Oyster Bar and eventually the use of disposable cell phones, secret codes and cash kickbacks before the scheme unraveled.

SEC Associate Director of Enforcement Scott W. Friestad said, "Today's action is one of the largest SEC insider trading cases against Wall Street professionals since the days of Ivan Boesky and Dennis Levine. It involves fraud by employees of some of the biggest brokerage and investment banking firms in the country. We will do everything possible to make sure that, in addition to any other remedies or sanctions imposed, none of these individuals ever works in the securities industry again."

Charges Expected in UBS Sale of Information Probe

DOJ and SEC will shortly bring criminal and civil charges against UBS employees for allegedly selling advance information about ratings adjustments to hedge fund traders.  See WPost, U.S. to Charge At Least 1 in Trading Probe

What Went Wrong with the Stock Markets?

Investors' concerns about the declining subprime lending industry (home mortgages to people with bad credit ratings) is the focus on the New York Times' analysis of what went wrong with the stock markets on Monday, in Soothing Words and a Stock Market Rebound , as well as concerns about a slowing down of the US economy (i.e., recession), in Commerce Department Says U.S. Economy Is Weaker Than Expected. Fed Reserve Board Chair Bernanke, however, told Congress he's not worried, see Bernanke Not Worried About Market Drop.

In addition, the NYSE's inability to handle the high level of trading volume may be attributed to its cutting back on floor traders and replacing them with an electronic trading platform.  The SEC is making an inquiry.  See WSJ, NYSE's Trading Overload Draws Attention of the SEC.

The SEC -- Not the Investors' Advocate

More evidence that the SEC is becoming an anti-investor agency.  Chair Cox will address the Chamber of Commerce at a conference where it will release its report calling for less regulation of companies. (We have previously reported on other evidence of this tilt -- particularly the SEC's amicus brief in the Tellabs case before the US Supreme Court and its backing away from hedge fund regulation.)  See NYTimes, Is the S.E.C. Changing Course?

Oracle Will Acquire Hyperion

Oracle plans to acquire Hyperion Solutions in a cash tender offer for $52 per share (21% premium) for a total price of $3.3 billion. See WSJ, Oracle Extends Acquisitions Spree, To Buy Hyperion for $3.3 Billion.

Lawyer Charged with PIPES fraud

The SEC announced today it filed an injunctive  action  in U.S. District Court for the Southern District  of  New  York  alleging that from approximately January 2006 to February 2007, Louis W. Zehil, a corporate attorney, and two entities he  controlled engaged  in  a fraudulent scheme to sell   millions of shares of securities in violation of the antifraud and registration provisions of the federal securities laws. With  the  consent  of  the parties,  Judge  Preska  entered  an  order  granting  a   preliminary injunction, an asset freeze, the appointment of a receiver  and  other relief.  Zehil was until recently a  partner  with  the  law  firm  of McGuireWoods LLP.
   

The Complaint alleges that between January  2006  and  February  2007, Zehil represented seven public companies in  issuing  their  stock  in PIPE transactions (private investments in public  equity) and Zehil  personally  invested  in  the issuers'  PIPE  transactions.  In  the subscription agreements for  each  PIPE  transaction,  the  Defendants agreed (as all the PIPE subscribers did) that the shares they received would be issued with  restrictive  legends  until  such  time  as  the issuers filed registration statements  with  the  Commission  and  the Commission declared them effective. As counsel for the issuers,  Zehil then sent letters  to  the  issuers'  transfer  agents  directing  the issuance of shares to the PIPE subscribers. Zehil's letters instructed that all the shares should bear restrictive legends except the  shares issued to his entities.  As a result, the Defendants were able to receive shares without restrictive legends, which they quickly sold into the  public  market, and generated illicit profits of at least $17 million.