Securities Law Prof Blog

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

Friday, January 9, 2009

Why an Obscure Accounting Firm Could Audit Madoff's Records

We all know that Bernie Madoff's brokerage firm was audited by an obscure 3-person accounting firm that is not registered with the Public Company Accounting Oversight Board.  This was permitted because the SEC exempted privately owned brokerage firms from the SOX requirement that firms are audited by registered accountants.  Floyd Norris reports, in today's NY Times, that the SEC has now quietly rescinded that exemption.  As a result, firms that audit broker-dealers for fiscal years that end December 2008 or later will have to be registered.  However, under another SOX provision, PCAOB is allowed to inspect only audits of publicly held companies.  NYTimes, Oversight for Auditor of Madoff.

January 9, 2009 | Permalink | Comments (0) | TrackBack (0)

Former JPMorgan RR's Disclosure Violated "Just and Equitable Principles" Rule

In In re Thomas W. Heath, III, the SEC affirmed a NYSE disciplinary proceeding that found that a former registered representative of JPMorgan Securities disclosed material nonpublic information regarding the pending acquisition of a JPMorgan client to his future employer.  The SEC agreed that the conduct was "inconsistent with just and equitable principles" and violated NYSE Rule 476(a)(6).  It found that the disclosure was self-interested and motivated by the registered representative's desire to gain the trust of his future colleague.  The SEC rejected the argument that liability must be premised on a finding of bad faith.

January 9, 2009 in SEC Action | Permalink | Comments (0) | TrackBack (0)

SEC Publishes Text of Indexed Annuity Rule

The SEC issued the text of its recently adopted rule that defines the terms “annuity contract” and “optional annuity contract” under the Securities Act of 1933. The controversial rule, which was almost universally opposed by the insurance industry, is intended to clarify the status under the federal securities laws of indexed annuities, under which payments to the purchaser are dependent on the performance of a securities index. The new rule prospectively defines certain indexed annuities as not being “annuity contracts” or “optional annuity contracts” under this exemption if the amounts payable by the insurer under the contract are more likely than not to exceed the amounts guaranteed under the contract.  The rule applies on a prospective basis to contracts issued on or after the effective date of the rule.

The SEC also adopted a new rule that exempts insurance companies from filing reports under the Securities Exchange Act of 1934 with respect to indexed annuities and other securities that are registered under the Securities Act, provided that certain conditions are satisfied, including that the securities are regulated under state insurance law, the issuing insurance company and its financial condition are subject to supervision and examination by a state insurance regulator, and the securities are not publicly traded.

January 9, 2009 in SEC Action | Permalink | Comments (0) | TrackBack (0)

Thursday, January 8, 2009

SEC Goes After Another Ponzi Scheme

Another Ponzi scheme -- is the SEC seeking atonement for failure to uncover the Madoff fraud?

The SEC announced today that it has filed an emergency civil enforcement action to halt an ongoing affinity fraud and Ponzi scheme orchestrated by Buffalo-based Gen-See Capital Corporation a/k/a Gen Unlimited ("Gen-See") and its owner and president, Richard S. Piccoli.  According to the Commission's complaint, the defendants have raised millions of dollars from investors by promising steady, "guaranteed" returns, ranging from 7.1% to 8.3% per annum, and no fees or commissions. In November 2008 alone, the defendants raised over $500,000 from investors. The defendants have relied heavily on advertisements in newsletters published by churches and dioceses. The complaint further alleges that the defendants told investors that their money was invested in "high quality" residential mortgages that the defendants were able to purchase at a discount. The defendants did not invest the funds as promised, but instead used new investor funds to make payments to earlier investors. In addition, the complaint alleges that Gen-See's offering and sale of securities to the public was not registered with the Commission.

The Commission seeks, among other emergency relief, a temporary restraining order (i) enjoining the defendants from future violations of the federal securities laws; (ii) freezing the defendants' assets; (iii) directing the defendants to provide verified accountings; and (iv) prohibiting the destruction, concealment or alteration of documents. In addition to this emergency relief, the Commission seeks preliminary and permanent injunctive relief and civil money penalties against the defendants as well as disgorgement by the defendants of their ill-gotten gains plus prejudgment interest.

January 8, 2009 in SEC Action | Permalink | Comments (0) | TrackBack (0)

Almost Half of U.S. Households Invest in Stocks or Bonds

According to a new joint study by the Investment Company Institute and SIFMA, nearly half of U.S. households owns equities or bonds, a significant increase during the last two decades. But ownership of these investment assets has declined since 2001, as increasing market volatility has reduced Americans’ tolerance for risk.  Based on a survey of more than 5,000 households, researchers at ICI and SIFMA calculate that 54.5 million households participated in the market through equity or bond ownership in early 2008. This represents 47 percent of U.S. households—up from 39 percent in 1989, the first year for which directly comparable survey data are available.

The two-decade rise in equity and bond investment was fueled by the rapid growth of defined contribution (DC) retirement savings plans, such as 401(k) plans, the researchers conclude. Between 1989 and 2004—the latest year for which comparable data are available—the number of participants in private-sector DC plans nearly doubled, from 36 million to 65 million. The ICI/SIFMA survey shows that at every income level, working-age households are much more likely to be equity or bond owners if their employer sponsors a DC plan.

Meanwhile, a story in today's Wall St. Journal details the gloomy prospects for many workers' retirement plans, as the value of employees' 401(k) retirement plans has plummeted this past year.  WSJ, Big Slide in 401(k)s Spurs Calls for Change.

January 8, 2009 in News Stories | Permalink | Comments (0) | TrackBack (0)

SEC Approves FINRA Rule Limiting Pre-Hearing Motions To Dismiss

FINRA announced that the SEC approved an important change FINRA requested to its dispute resolution rules that will significantly reduce the frequency of motions to dismiss arbitration cases before investors have a chance to present their case.  The new rule responds to investor concerns regarding abusive and duplicative filing of motions to dismiss, also called dispositive motions. FINRA received complaints that parties - most often respondent firms - were filing dispositive motions routinely and repetitively, causing increased costs for claimants, who are typically retail investors.  Under the new rule, a motion to dismiss before a claimant's case is presented can only be granted on three specific grounds, and there are stringent new sanctions against parties for engaging in abusive case-dismissal practices.

Specifically, if a party in an arbitration case files a dispositive motion before a claimant finishes presenting its case, the arbitration panel can only grant the motion for three reasons: the parties have settled their dispute in writing; there is a "factual impossibility," meaning the party could not have been associated with the conduct at issue; or the motion could be granted under the eligibility rule that requires parties to bring arbitration claims within six years of the events at issue.  The new rule also requires that the arbitrators conduct a hearing on motions to dismiss; that a decision to grant the dispositive motion be unanimous; and that the panel issues a written explanation of a decision to grant dismissal.

As for costs and penalties, the party seeking a dismissal will be assessed all the related fees if the motion is denied. The arbitrators must also award costs and attorneys' fees in favor of the party opposing a motion that is deemed to be frivolous by the panel.

FINRA will announce the effective date of the rule change in a Regulatory Notice to be published shortly.

January 8, 2009 in Other Regulatory Action | Permalink | Comments (0) | TrackBack (0)

SEC Takes Action to Halt Ponzi Scheme

The SEC filed an emergency action to halt an estimated $50 million Ponzi scheme conducted by Joseph S. Forte (“Forte”) and Joseph Forte, L.P. (“Forte LP”), of Broomall, Pennsylvania. According to the Commission’s complaint, from at least February 1995 to the present, Forte has been operating a Ponzi scheme in which he fraudulently obtained approximately $50 million from as many as 80 investors through the sale of securities in the form of limited partnership interests.  The federal district court for the Eastern District of Pennsylvania issued an order granting a preliminary injunction, freezing assets, compelling an accounting, and imposing other emergency relief. Without admitting or denying the allegations in the Commission’s complaint, Forte and Forte LP consented to the entry of the order.

The Commission’s complaint alleges that in late December 2008, Forte admitted to federal authorities that from at least 1995 through December 2008, he had been conducting a Ponzi scheme. Forte, who has never been registered with the Commission in any capacity, told investors that he would invest the limited partnership funds in a securities futures trading account in the name of Forte LP that would trade in futures contracts, including S&P 500 stock index futures (“trading program”).  Forte has admitted that he misrepresented and falsified Forte LP’s trading performance from the very first quarter. From 1995 through September 30, 2008, the defendants reported to investors annual returns ranging from 18.52% to as high as 37.96%. However, from January 1998 through October 2008, the Forte LP trading account had net trading losses of approximately $3.3 million.

January 8, 2009 in SEC Action | Permalink | Comments (0) | TrackBack (0)

Wednesday, January 7, 2009

Satyam CEO Confesses to Accounting Fraud

The CEO and founder of Satyam Computer Services, a leading Indian outsourcing company, announced that the company has inflated its earnings and assets for years.  Ramalinga Raju said that about $1 billion of its reported cash and other assets were nonexistent.  Satyam serves as the back office for some of the largest companies in the world.  Its stock is listed on the NYSE, and it is audited by PricewaterhouseCoopers.  NYTimes, Satyam Chief Admits Huge Fraud.

January 7, 2009 in News Stories | Permalink | Comments (0) | TrackBack (0)

Prosecutors Seek to Revoke Madoff's Bail

According to the government's brief, Bernie Madoff sent to his family packages containing 13 watches, 4 diamond brooches, a jade necklace, 2 sets of cufflinks and other jewelry worth at least $1 million.  Prosecutors say this violates the terms of a court order and makes Madoff an increased flight risk.  Madoff's attorney says it was a mistake.  NYTimes, Court Filing Details Items Madoff Sent.

January 7, 2009 in News Stories | Permalink | Comments (0) | TrackBack (0)

Principals and Attorneys Indicted in Alleged Viatical Settlements Fraud

On January 5, 2009, the United States Attorney for the Southern District of Florida announced the Indictment of Joel Steinger, Steven Steiner, Michael McNerney and Anthony Livoti, Jr., in connection with their involvement with Mutual Benefits Corp. ("MBC"), a viatical and life settlement company that raised more $1.25 billion from over 30,000 investors worldwide from October 1994 through May 2004. According to the 25-count Indictment, Steinger and Steiner, two of the founding principals of MBC, and attorneys McNerney and Livoti, participated in a wide-scale fraud involving the sale of these investments, falsely promising investors "safe" and "secure" investments when they knew that MBC had, among other things, improperly acquired policies, pressured doctors to rubber-stamp false life expectancy figures, and mismanaged escrowed premium funds in a "Ponzi" scheme fashion. The Indictment charges the defendants with conspiracy, mail fraud, wire fraud and money laundering in violation of 18 U.S.C. §§ 1341, 1343, 1349, and 1956(h); the criminal case has been filed in the United States District Court for the Southern District of Florida.

The SEC halted MBC's on-going fraud through an emergency action filed in May 2004. The SEC's case named as defendants, among others, Joel Steinger and Steven Steiner. The SEC's complaint alleged that MBC and the defendants violated Sections 5(a), 5(c) and 17(a) of the Securities Act of 1933 and Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5. In the SEC's action, both Joel Steinger and Steven Steiner each consented to entry of a Final Judgment of Permanent Injunction and Other Relief, entered by the District Court on December 6, 2005 and April 10, 2007, respectively. In addition to being enjoined from further violations of the federal securities laws, under their respective final judgments, Joel Steinger was ordered to pay disgorgement in the amount of $9 million and a civil penalty in the amount of $500,000, and Steven Steiner was ordered to pay disgorgement in the amount of $3,925,000.

January 7, 2009 in News Stories | Permalink | Comments (0) | TrackBack (0)

Tuesday, January 6, 2009

Criminal Charges Alleging Ponzi Scheme Filed Against Anthony James

On December 23, 2008, the United States Attorney for the Eastern District of Michigan filed criminal charges against Anthony A. James, a South Florida investment adviser, charging James with two counts of mail fraud in connection with a multi-million dollar misappropriation and Ponzi scheme. According to the indictment, between April 2001 and January 2008, James used his position as owner of James Asset Advisory, LLC ("James Asset") to receive over $5.3 million from over 40 clients. Those funds were supposed to be invested in various securities, bonds, and funds. Instead of investing those funds, James used approximately $2.4 million of investor money for his own personal use and approximately $2.8 million of investor money to pay back other prior investors.  The SEC previously settled charges against James and James Asset, relating to the same conduct.

January 6, 2009 in News Stories | Permalink | Comments (0) | TrackBack (0)

Fifth Circuit Affirms Skilling's Conviction

The Fifth Circuit affirmed former Enron CEO Jeff Skilling's conviction on 19 counts of fraud, etc., but agreed with his lawyer that the lower court committed error in sentencing him to 24 years and ordered the lower court to resentence Skilling.  Skilling's attorney had argued on appeal that Skilling had been a loyal employee who worked for the company's benefit and thus could not have deprived the company of "honest services."  This argument has prevailed in other Enron appeals before the 5th Circuit.  WSJ, Court Orders Resentencing for Skilling.

January 6, 2009 in News Stories | Permalink | Comments (0) | TrackBack (0)

Monday, January 5, 2009

SEC's Inspector General Testifies on Madoff Investigation

H. David Kotz, the SEC's Inspector General, testified today before the U.S. House of Representatives Committee on Financial Services on its ongoing Madoff investigation.  According to his written statement:

On the late evening of December 16, 2008, SEC Chairman Christopher Cox contacted me and asked my office to undertake an investigation into allegations made to the SEC regarding Mr. Madoff, going back to at least 1999, and the reasons that these allegations were found to be not credible. The Chairman also asked that we investigate the SEC's internal policies that govern when allegations of fraudulent activity should be brought to the Commission, whether those policies were followed, and whether improvements to those policies are necessary. In addition, he requested that the investigation include all staff contact and relationships with the Madoff family and firm, and any impact such relationships had on staff decisions regarding the firm.

It is our opinion that the matters that must be analyzed regarding the SEC and Bernard Madoff may go beyond the specific issues that SEC Chairman Cox has asked us to investigate. We believe that in addition to conducting a thorough and comprehensive investigation of the specific complaints that were allegedly brought to the SEC's attention regarding Mr. Madoff and the reasons for the SEC's apparent failure to act upon these complaints, as well as the staff's contact and relationships with the Madoff family and firm and their impact on Commission decisions regarding Mr. Madoff, our oversight efforts must include an evaluation of broader issues regarding the overall operations of the Division of Enforcement and OCIE that would bear on the specific questions we are examining, and provide overarching and comprehensive recommendations to ensure that the Commission fulfills its mission of protecting investors, facilitating capital formation and maintaining fair, orderly and efficient markets.

The following are specific issues that we currently intend to investigate:

The SEC's response to complaints it received regarding the activities of Bernard Madoff, including any complaints sent to the Division of Enforcement, OCIE, the Office of Risk Assessment and/or the Office of Investor Education and Advocacy. We plan to trace the path of these complaints through the Commission from inception, reviewing what, if any, investigative or other work was conducted with respect to these allegations, and analyze whether the complaints were handled in accordance with Commission policies and procedures and whether further work should have been conducted;

Allegations of conflicts of interest regarding relationships between any SEC officials or staff and members of the Madoff family, including examining the role a former SEC official who allegedly had a personal relationship with a Madoff family member may have played in the examination or other work conducted by the SEC with respect to Bernard Madoff or related entities, and whether such role or such relationship in any way affected the manner in which the SEC conducted its regulatory oversight of Bernard Madoff and any related entities;

The conduct of examinations and/or inspections of Bernard Madoff Investment Securities LLC by the SEC and an analysis of whether there were "red flags" that were overlooked by SEC examiners and inspectors (which may have been identified by other entities conducting due diligence), that could have led to a more comprehensive examination and inspection, including a review of whether the SEC violated its own policies and procedures by not conducting timely reviews or examinations of Bernard Madoff's activities and filings; and

The extent to which the reputation and status of Bernard Madoff and the fact that he served on SEC Advisory Committees, participated on securities industry boards and panels, and had social and professional relationships with SEC officials, may have affected Commission decisions regarding investigations, examinations and inspections of his firm.

In addition to these specific issues and depending upon the information that we learn during the course of our investigation, we plan to consider analyzing the following broader issues, as appropriate:

The complaint handling procedures of the Division of Enforcement, including a review of how complaints are processed, internal incentives that may affect the decision whether to take action with respect to a complaint, an analysis of which complaints are brought to the Commissioners' and Chairman's attention, and whether tangible and specific complaints are being reviewed and followed-up on appropriately;

The OCIE examination and inspection procedures, including an analysis of what policies and procedures were then and are currently in place, whether these policies and procedures are being followed and/or whether there are gaps in these policies and procedures relating to operations involving voluntary private investment pools, such as hedge funds, because they are subject to limited oversight by the SEC, and whether any such gaps may lead to fraudulent activities not being detected; and

The relationships between different divisions and offices within the Commission and whether there is sufficient intra-agency collaboration and communication between the Agency components to ensure comprehensive oversight of regulated entities.

January 5, 2009 in News Stories | Permalink | Comments (0) | TrackBack (0)