October 4, 2008
McAfee GC Acquitted of Fraud on Backdating Charges
The Wall St. Journal reports that a jury acquitted the former general counsel at McAfee Inc., Kent Roberts, of fraud in connection with illegal backdating of stock options in federal district court in San Francisco. While the jury did not come to a decision on a charge of falsifying accounts, the judge recommended no further action. WSJ, Ex-McAfee Executive Clear of Illegal Option Dating.
October 3, 2008
SEC Charges Five World Securities Brokers with Unsuitable Sales of Variable Universal Life Policies
The SEC filed a complaint against Kederio Ainsworth, Guillermo Haro, Jesus Gutierrez, Gabriel Paredes, and Angel Romo, five World Group Securities (WGS) registered representatives, including a branch office manager, charging them with fraudulently selling unsuitable securities, primarily variable universal life policies. Most customers who bought these securities lacked the cash or income to do so but were urged by the defendants to raise the money to pay for the purchases and subsequent monthly payments required for these products by refinancing their fixed-rate mortgages into subprime adjustable-rate negative amortization mortgages. Most customers had little formal education beyond high school, had little prior investment experience and several did not speak English fluently, if at all. In making the sales, the defendants allegedly misrepresented the expected returns from the securities, the liquidity of securities, and the nature of the securities and the terms of the new mortgages while failing to disclose material facts about the products.
The Commission's complaint also alleges that the defendants falsified customer account forms and prepared order tickets that contained information they knew was inaccurate relating to the securities sales.
The Complaint seeks to enjoin the defendants from future violations of Section 17(a) of the Securities Act of 1933, and Sections 10(b) and 17(a) of the Securities Exchange Act of 1934 and Rules 10b-5 and 17a-3 thereunder; payment of disgorgement and prejudgment interest and the imposition of civil penalties.
October 2, 2008
SEC Charges 16 Individuals in Insider Trading in advance of Dick's Sporting Goods Merger Announcement
The SEC filed two complaints in the U.S. District Court for the Western District of Pennsylvania against a total of sixteen individuals for insider trading in advance of Dick's Sporting Goods Inc.'s June 21, 2004, announcement that it intended to acquire Galyan's Trading Company, Inc. via a tender offer. The complaints allege that Joseph J. Queri, Jr., Dicks' Senior Vice President of Real Estate, tipped his close friend, Gary Gosson, and his father, Joseph Queri, Sr., about the acquisition. Gosson, in turn, tipped his friends defendants Gary L. Camp, Michael A. Santaro, Joseph A. Federico, Philip J. Simao, Mark J. Costello, and Alan J. Johnston, who all bought shares of Galyans stock. Johnston, in turn, tipped family members and friends, who also bought shares. Gosson gave Camp money to buy shares of Galyans stock through Camp's brokerage account. Santaro and Federico shared profits with Gosson.
Queri Sr. tipped his friends James L. Jerome, Kyle D. Kaczowski, Gino M. Ferraro, Felix A. Crisafulli, and Thomas M. Heller, who all bought shares of Galyans stock. Jerome, in turn, tipped defendant Brandt A. England, who also bought shares. Kaczowski tipped two friends who traded. Ferraro tipped his son-in-law, defendant Franko J. Marretti III, who traded and tipped a business colleague.
The day after the public announcement, Galyan's stock closed at $16.68, a 50.3% increase from the previous day's closing price of $11.10. The traders collectively profited over $620,000 after selling their Galyans stock.
Five of the defendants have agreed to settle with the SEC. Without admitting or denying the allegations in the complaint, Queri Sr., Santaro, Ferraro, Crisafulli and Heller consented to the entry of a Final Judgment, subject to the court's approval.
SEC Extends Ban on Short-Selling
The SEC issued the following statement extending its ban on short selling in stocks of financial institutions:
The Commission has taken steps during recent weeks to address concerns regarding short sales in light of the ongoing credit crisis. These efforts relating to short sales have focused particularly on the securities of financial institutions whose health may have an impact on financial stability. The steps the Commission has taken are designed to ensure the continued smooth operation of orderly markets. Our actions have been taken in consultation with regulators of the major developed securities markets around the world, with whom we have coordinated in monitoring market reactions.
The Commission notes that short selling plays an important role in the market for a variety of reasons, including contributing to efficient price discovery, mitigating market bubbles, increasing market liquidity, promoting capital formation, facilitating hedging and other risk management activities, and importantly, limiting upward market manipulations. In addition, there are circumstances in which short selling can be used as a tool to mislead the market. For example, short selling can be used in a downward manipulation whereby a manipulator sells the shares of a company short and then spreads lies about a company's negative prospects. This harms issuers and investors as well as the integrity of the market. This kind of manipulative activity is particularly problematic in the midst of a loss in market confidence. For example, in the context of a credit crisis where financial institutions face liquidity challenges, but are otherwise solvent, a decrease in their share price induced by short selling may lead to further credit tightening for these entities, possibly resulting in loss of confidence in these institutions.
The Commission has recently used its emergency authority to minimize the possibility of abusive short selling as the Congress works to provide a comprehensive plan to stabilize credit markets and the financial system. Under this authority, the Commission's actions are limited to up to 30 calendar days, and may not be extended. To provide clarity about the future expiration of these actions, the Commission is announcing that each of the emergency orders issued on Sept. 17 and Sept. 18, 2008, will be extended to allow time for completion of work on the anticipated passage of legislation.
See also: ORDER EXTENDING EMERGENCY ORDER PURSUANT TO SECTION 12(k)(2) OF THE SECURITIES EXCHANGE ACT OF 1934 TAKING TEMPORARY ACTION TO RESPOND TO MARKET DEVELOPMENTS
Pursuant to Section 12(k)(2) of the Securities Exchange
October 1, 2008
Inspire Pharmaceuticals and Former Officers Settle Disclosure Charges
The SEC settled charges against Inspire Pharmaceuticals, Inc. (Inspire), the company's Chief Executive Officer, Christy L. Shaffer (Shaffer) and former Senior Vice President, Communications, Mary B. Bennett (Bennett), concerning disclosures that Inspire made about the details of a clinical trial required by the U.S. Food and Drug Administration (FDA) for approval of Inspire's dry-eye drug, diquafosol tetrasodium (diquafosol).
The Order finds that Shaffer and Bennett were responsible for Inspire's disclosure decisions concerning the details of the diquafosol program, and that Inspire's Forms 10-Q for the first three quarters of its fiscal year 2004 described the clinical trial as "confirmatory" and stated that diquafosol had to "replicate" the efficacy demonstrated in an earlier clinical trial. In the context of other public statements made by Inspire and Shaffer concerning diquafosol, these statements created the impression that the particular standard by which diquafosol had to demonstrate efficacy in the new clinical trial, the primary endpoint, was the same as a primary endpoint that diquafosol had successfully achieved in a previous clinical trial. In fact, the primary endpoint was different from the primary endpoints of previous clinical trials for diquafosol. On February 9, 2005, Inspire announced that diquafosol had failed to achieve the trial's primary endpoint, which the company specifically identified for the first time. Inspire's stock closed at $8.88 per share, representing a drop of more than 44 percent from the previous day's close of $16 per share.
Inspire, Shaffer, and Bennett consented to the issuance of the Order without admitting or denying any of the findings.
SEC Settles Fraud Case Involving Pennsylvania School Districts
The SEC charged Stephen R. Moynahan, the former president and chief executive officer of Dolphin & Bradbury, Incorporated, formerly a registered broker-dealer based in Philadelphia, for failing reasonably to supervise Robert J. Bradbury, an investment banker and co-owner of the firm, who defrauded certain unsophisticated investors, including Pennsylvania school districts. According to the Commission's Order, Bradbury engaged in a fraudulent scheme in which he offered and sold primarily to various Pennsylvania school districts a series of risky, short-term, tax-exempt notes underwritten by Dolphin & Bradbury to finance a speculative golf course project. As president of Dolphin & Bradbury, Moynahan was generally responsible for firm supervision, and the firm's procedures expressly assigned certain supervisory duties to him. Although Moynahan was responsible for reviewing exception reports, he failed to read an exception report that explicitly flagged the purchase of the notes as potentially unsuitable investments for the school districts. Without admitting or denying the Commission's findings, Moynahan consented to the entry of an Order by the Commission that includes a civil money penalty of $140,000.
The Commission filed a civil injunctive action against Bradbury and others in August 2006 alleging that Bradbury defrauded the Pennsylvania school districts and charging him with violating the antifraud provisions of the federal securities laws.
FINRA Issues Investor Alert on Guarantee Program for Money Market Funds
FINRA issued an Investor Alert, Treasury's Guarantee Program for Money Market Mutual Funds: What You Should Know, advising investors that:
The insurance provided by the program only covers the total value of a shareholder's account in a participating fund as of the close of business on Sept. 19, 2008.
Participation in the program by a tax-exempt money market fund will not jeopardize the tax-exempt status of payments.
The program will be in effect for three months, beginning Sept. 19, 2008. After three months, the Secretary of the Treasury will assess the program and decide whether to extend it. The program can be extended until Sept. 18, 2009.
September 30, 2008
Former BISYS Group Officer Settles SEC Accounting Charges
The SEC filed a civil injunctive action in United States District Court for the Southern District of New York charging Steven Wevodau, former vice president of finance for the Insurance and Education Services group of the BISYS Group, Inc., with violating the antifraud and internal controls provisions of the Securities Exchange Act of 1934 ("Exchange Act'), and with aiding and abetting BISYS's violations of the Exchange Act's financial reporting, books-and-records and internal controls provisions. Wevodau has agreed to settle the case, without admitting or denying the Commission's allegations. The SEC's complaint alleged that from at least July 2000 until at least March 2002, Wevodau was the senior financial official in the business unit that included BISYS's Insurance Services division, which was largely responsible for the company's reported growth during the period. Wevodau allegedly responded to senior management's focus on meeting aggressive, short-term earnings projections by encouraging and directing personnel in Insurance Services' finance department to meet earnings targets by applying a variety of fraudulent or otherwise improper accounting practices. These accounting practices allegedly substantially inflated BISYS's operating results for the quarters ended September 30, 2000 and December 31, 2000, and for the fiscal years ended June 30, 2001 and 2002 (fiscal years 2001 and 2002) and contributed substantially to the company's eventual restatement of over $100 million of Insurance Services' reported income for fiscal years 2001 through 2003.
BISYS previously consented, without admitting or denying the Commission's allegations against it, to the entry of a judgment enjoining the company from violating the financial reporting, books-and-records, and internal controls provisions of the federal securities laws and ordering that it pay $25 million in disgorgement and prejudgment interest.
SEC Settles Insider Trading Charges in ACR Group Stock
The SEC settled insider trading charges against Randolph Leone and Randall Clark Wall, both of whom, the SEC alleged, independently engaged in unlawful insider trading in the securities of ACR Group, Inc. in advance of a public announcement on July 5, 2007 that ACR Group had executed a definitive agreement with Watsco, Inc., a New York Stock Exchange issuer, pursuant to which Watsco would acquire ACR Group's outstanding common stock in a tender offer. The Commission alleged that Leone learned of the pending ACR Group/Watsco transaction when he overheard a telephone conversation between his wife and the wife of ACR Group's in-house general counsel telephoned (they are sisters). According to the SEC, Wall, a former employee of a supplier to both ACR Group and Watsco, learned of the pending ACR Group/Watsco transaction from his supervisor, who was informed of the deal, in confidence, by Watsco's senior vice president.
SEC Settles Insider Trading Charges Against Former Genesis Microchip CEO and Friend
The SEC settled insider trading charges against Elias Antoun, the former President and CEO of Genesis Microchip, Inc. It alleged that Antoun bought Genesis stock while in confidential merger negotiations with STMicroelectronics, one of the world's largest semiconductor companies. The SEC also charged Antoun's childhood friend, Samir Abed, who purchased Genesis stock and options after learning of the merger negotiations from Antoun. Both Antoun and Abed, who netted profits of approximately $33,975 and $51,206, respectively, when the merger was announced, agreed to settle the SEC's charges without admitting or denying the Commission's allegations.
SEC Clarifications on Fair Value Accounting
The SEC posted "SEC Office of the Chief Accountant and FASB Staff Clarifications on Fair Value Accounting" on its website. It states in full:
The current environment has made questions surrounding the determination of fair value particularly challenging for preparers, auditors, and users of financial information. The SEC's Office of the Chief Accountant and the staff of the FASB have been engaged in extensive consultations with participants in the capital markets, including investors, preparers, and auditors, on the application of fair value measurements in the current market environment.
There are a number of practice issues where there is a need for immediate additional guidance. The SEC's Office of the Chief Accountant recognizes and supports the productive efforts of the FASB and the IASB on these issues, including the IASB Expert Advisory Panel's Sept. 16, 2008 draft document, the work of the FASB's Valuation Resource Group, and the IASB's upcoming meeting on the credit crisis. To provide additional guidance on these and other issues surrounding fair value measurements, the FASB is preparing to propose additional interpretative guidance on fair value measurement under U.S. GAAP later this week.
While the FASB is preparing to provide additional interpretative guidance, SEC staff and FASB staff are seeking to assist preparers and auditors by providing immediate clarifications. The clarifications SEC staff and FASB staff are jointly providing today, based on the fair value measurement guidance in FASB Statement No. 157, Fair Value Measurements (Statement 157), are intended to help preparers, auditors, and investors address fair value measurement questions that have been cited as most urgent in the current environment.
The Penn Traffic Company Settles SEC Accounting Fraud Charges
The SEC charged the supermarket operator and wholesale food distributor The Penn Traffic Company with fraud for orchestrating multi-million dollar accounting schemes that inflated its operating income and overstated its after tax net income. The SEC's complaint, filed in the U.S. District Court for the Northern District of New York, alleges that Syracuse, N.Y.-based Penn Traffic carried out the accounting fraud over multiple reporting periods, and failed to file certain required financial reports with the SEC or filed reports that did not fully comply with SEC regulations. Penn Traffic agreed to settle the SEC's charges without admitting or denying the allegations in the Complaint and consented to the entry of a Court order enjoining it from violating the antifraud, books and records, internal controls, and periodic reporting provisions of the federal securities laws. Penn Traffic also agreed to certain undertakings that require it to employ an independent examiner, among other things. The settlement is subject to the Court's approval.
The SEC previously charged two former senior Penn Traffic executives and one Penny Curtiss executive for their roles in the fraudulent schemes alleged in the complaint. The Commission's case is pending against Leslie H. Knox, Penn Traffic's former Senior Vice President and Chief Marketing Officer, and Linda J. Jones, Penn Traffic's former Vice President of Non-Perishable Merchandising. In 2005, the Commission obtained a consent judgment against Michael J. Lawler, the former Director of Manufacturing at Penny Curtiss, permanently enjoining him from violating the antifraud and books and records of the securities laws.
September 29, 2008
SEC Schedules Roundtable on Disclosure System
The SEC will hold a Roundtable on Modernizing the Securities and Exchange Commission's Disclosure System on Wednesday, Oct. 8, 2008, beginning at 9:00 a.m. (I know, you're thinking that the financial markets are going to hell in a handbasket, but ....) The roundtable will consist of an open discussion on the Commission's financial disclosure system, including the information needs of investors, public companies, and others and the capabilities of modern information technology to improve transparency and ease of use. The roundtable will be organized as two panels, each consisting of investors, issuers, academics, and other parties with experience with the Commission's financial disclosure system.
Court Finds Hedge fund Adviser Overstated Funds' Valuations
The United States District Court for the Southern District of Florida recently granted the SEC's motion for summary judgment, in part, against Michael Lauer, the architect of a $1.1 billion hedge fund fraud scheme. The Court found that Lauer's fraud as head of Lancer Management Group and Lancer Management Group II that acted as hedge fund advisers was "egregious, pervasive, premeditated and resulted in the loss of hundreds of millions of dollars in investors' funds." Te Court found Lauer materially overstated the hedge funds' valuations for the years 1999-2002, manipulated the prices of seven securities that were a material portion of the funds' portfolios from November 1999 through at least April 2003, failed to provide any basis for the exorbitant valuations of the shell corporations that saturated the funds' portfolios, lied to investors about the hedge funds actual holdings by providing them with fake portfolios; and falsely represented the hedge funds' holdings in newsletters.
The Court's order reserved ruling on the amount of disgorgement Lauer should pay until the Court conducts an evidentiary hearing, and gave the SEC sixty days to propose a civil money penalty amount that Lauer should pay.
Former SafeNet Officer Consents to Backdating Judgment
The United States District Court for the District of Columbia entered a Final Judgment of permanent injunction and other relief, including a ten year officer and director bar, against Carole Argo ("Argo"), the former president, Chief Financial Officer and Chief Operating Officer of SafeNet, Inc. ("SafeNet"). Without admitting or denying the Commission's allegations, Argo consented to the entry of the Final Judgment. The judgment settles the Commission's claims against Argo in a civil action filed on August 1, 2007, in which the Commission alleged that Argo engaged in a fraudulent scheme to backdate option grants while she was an officer of SafeNet. The Commission's complaint alleged that Argo was aware that SafeNet routinely granted in-the-money options, and she knowingly or recklessly failed to cause SafeNet to record a compensation expense as required by Generally Accepted Accounting Principles. Consequently, SafeNet reported materially misstated financial results for periods beginning in late-2000 through early-2006. The complaint further alleges that Argo regularly prepared, reviewed, and/or signed proxy statements, periodic reports, and registration statements that she knew, or was reckless in not knowing, contained materially false and misleading statements and omissions concerning SafeNet's financial condition and options granting practices.
The Final Judgment orders Argo to pay a civil penalty of $50,000 (which will be offset by any payment Argo makes toward the $1,000,000 fine that was imposed upon her in a parallel criminal prosecution).
As part of the settlement, the Commission today issued an administrative order, pursuant to Rule 102(e)(3) of the Commission's Rules of Practice, suspending Argo from appearing or practicing before the Commission as an accountant. Argo consented to the issuance of the order, without admitting or denying the Commission's findings
Participants in "Free Lunch" Fraud Sentenced
A California judge sentenced the last of three men to prison after they were convicted of 522 felony charges in a fraudulent scheme that was the subject of a prior enforcement action brought by the SEC. The fraud raised more than $187 million from over 1,800 victims, mostly senior citizens and the elderly. Daniel Heath was sentenced on September 26, 2008 to 127 years and four months in state prison; Denis O'Brien on April 4, to 40 years and four months; and John Heath (now deceased) on February 22, to 28 years and four months. Each defendant received the maximum sentence for their convictions and was ordered to pay a total of $117 million in restitution to the defrauded investors.
In 2004, the Riverside County District Attorney's Office arrested and charged the defendants with committing securities fraud, elder abuse, grand theft, money laundering, tax fraud, and conspiracy, all under California law. In January 2008, a Riverside County jury found Daniel Heath found guilty on 400 felony counts, O'Brien on 70 felony counts, and John Heath on 52 felony counts. In addition, in 2004, the SEC filed a complaint against Daniel Heath and O'Brien alleging they fraudulently induced elderly investors through "free lunch" seminars to invest in "secured" notes that paid a "guaranteed" return. Final judgments of permanent injunction and other relief were entered against them.
Statement by Assistant Secretary Michele Davis on Emergency Economic Stabilization Act Vote:
"The Secretary will be consulting with the President, the Chairman of the Federal Reserve, and Congressional leaders on next steps. In the meantime, we stand ready to work with fellow regulators and use all the tools at our disposal, as we have over the last several months, to protect our financial markets and our economy."
Citigroup Will Acquire Wachovia's Banking Operations with FDIC Assistance
Citigroup and Wachovia reached an agreement-in-principle for Citi to acquire Wachovia's banking operations in An FDIC-assisted transaction. The acquisition will result in a retail bank with 9.8% U.S. market deposit share and total deposits globally of $1.3 trillion. The FDIC is providing loss protection to Citi in support of transaction. In addition, Citi plans to raise $10 billion in common equity and reduce its quarterly dividend to 16 cents per share.
Wachovia will remain a public company and retain its asset management, retail brokerage, and certain select parts of its wealth management businesses, including the Evergreen and Wachovia Securities franchises. Under the terms of the agreement-in-principle, Citi will pay Wachovia approximately $2.16 billion in stock and assume Wachovia senior and subordinated debt, totaling approximately $53 billion.
Congress Considers Emergency Economic Stabilization Act
PROTECTION FOR TAXPAYERS, REQUIRING A PLAN TO BE REPAID IN FULL
Requiring Congressional review after the first $350 billion is disbursed
Gives taxpayers a share of the profits of participating companies, or puts taxpayers first in line to recover assets if a company fails
Requires a President five years from now to submit a plan to ensure taxpayers are repaid in full, with Wall Street making up any difference
Allows the government to also purchase troubled assets from pension plans, local governments, and small banks that serve low- and middle-income families
LIMITS ON EXCESSIVE COMPENSATION FOR CEOs AND EXECUTIVES
For companies publicly auctioning over $300 million:
No multi-million dollar golden parachutes for top 5 executives after auction
No tax deduction for executive compensation over $500,000
Penalizes golden parachutes for CEOs who are fired or have run the company into the ground
For companies from which the government makes direct purchases:
No multi-million dollar golden parachutes
Limits CEO compensation that encourages unnecessary risk-taking
Recovers bonuses paid to executives who promise gains that later turn out to be false or inaccurate
STRONG INDEPENDENT OVERSIGHT AND TRANSPARENCY
Four separate independent oversight entities or processes to protect the taxpayer
A strong oversight board appointed by bipartisan leaders of Congress
GAO oversight and audits at Treasury to ensure strong controls; to prevent waste, fraud, and abuse
An independent Inspector General to monitor the Treasury Secretary’s decisions
Transparency—requiring posting of transactions online
Meaningful judicial review of the Treasury Secretary’s actions
HELP TO PREVENT HOME FORECLOSURES CRIPPLING THE AMERICAN ECONOMY
The government can work with loan servicers to change the terms of mortgages (reduce principal or interest rate, lengthen time to pay back the mortgage) to reduce the 2 million projected foreclosures in the next year
Extends provision (enacted earlier in this Congress) to stop tax liability on mortgage foreclosures
Helps save small businesses that need credit by aiding small community banks hurt by the mortgage crisis—allowing these banks to deduct losses from investments in Fannie Mae and Freddie Mac stocks
September 28, 2008
Pritchard & Thompson on New Deal Justices
Securities Law and the New Deal Justices, by Adam C. Pritchard, University of Michigan Law School, and Robert B. Thompson, Vanderbilt University - School of Law; Vanderbilt University - Owen Graduate School of Management, was recently posted on SSRN. Here is the abstract:
Taming the power of Wall Street was a principal campaign theme for Franklin Delano Roosevelt in the 1932 election. Roosevelt's election bore fruit in the Securities Act of 1933, which regulated the public offering of securities, the Securities Exchange Act of 1934, which regulated stock markets and the securities traded in those markets, and the Public Utility Holding Company Act of 1935 (PUHCA), which legislated a wholesale reorganization of the utility industry. The reform effort was spearheaded by the newly created Securities and Exchange Commission, part of the new wave of experts brought to Washington to rein in business. PUHCA also marked the federal government's first significant incursion into corporate governance, with a corresponding reduction in the traditional role of investment bankers. The SEC's ascendance over the investment bankers was reinforced during FDR's second term by the Chandler Act of 1938, which provided the agency with a broad role in the bankruptcy reorganization of troubled companies.
Enacting those statutes was only the beginning, as the scope and effectiveness of the SEC's regulatory efforts depended critically on navigating these new statutes past an initially hostile Supreme Court. After substantial delay in the lower courts, the securities statutes eventually got a friendly hearing in the Supreme Court, where a number of Justices came to the Court after serving as the "Founding Fathers" of the federal securities laws. Roosevelt's Supreme Court nominees were involved in drafting the new legislation, securing its passage in Congress and implementing a litigation strategy that successfully stalled final determination of the constitutionality of the securities laws until New Deal appointed justices were in place. Felix Frankfurter played an important role in shaping the Securities Act and PUHCA, and was a key advisor on litigation strategy to the Roosevelt administration. Hugo Black led the legislative battle to enact PUHCA against the utility companies. Stanley Reed and Robert Jackson were key courtroom advocates arguing PUHCA's constitutionality. William O. Douglas headed the study of Protective Committees that led to the Chandler Act and was Chairman of the SEC.
In this article, we explore the role of the New Deal justices in enacting the securities laws, litigating the challenges brought against them and then interpreting these laws in securities cases before the Supreme Court. We show the important role that these New Deal justices played in ensuring a broad scope for the federal securities laws through generous interpretation. Once constitutional questions had faded, securities cases proved to be a critical testing ground for newly emerging theories of administrative law. We demonstrate the split over the importance of judicial review versus deference to the rule of experts that emerged among these Roosevelt appointees. Finally, we explore the relative lack of influence of Douglas and Frankfurter in these cases, despite their familiarity and experience with the securities laws.