Securities Law Prof Blog

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

Friday, February 3, 2012

Carlyle Drops Arbitration Clause in IPO Filings

Good news!  The Carlyle Group announced today that it was dropping the controversial mandatory arbitration (and no class actions) clause from its IPO documents.  Apparently it decided it was a bad idea after consultations with the SEC, investors and other interested individuals.  Three Democratic Senators (Blumenthal, Franken and Menendez) also wrote to SEC Chair Schapiro expressing their concerns. 


February 3, 2012 in Securities Arbitration | Permalink | Comments (1) | TrackBack (0)

Schwab Sues FINRA, Seeks Declaratory Judgment It Can Prohibit Class and Consolidated Claims

In a blog yesterday, I reported that Charles Schwab has filed a declaratory judgment action against FINRA in federal district court in Northern California in response to FINRA's institution of a disciplinary action against the firm.  The issue is whether Schwab's amending its customer agreements to bar class actions in court and to prevent arbitrators from consolidating individual claims is legal and enforceable.  FINRA asserts the changes violate its rules; Schwab disputes this, but says that in any event the recent U.S. Supreme Court opinions in Concepcion and Compucredit override FINRA's rules.

I will have more to say about the litigation later, but in the meantime here is the Schwab complaint (Download Schwab Complaint).

February 3, 2012 in Securities Arbitration | Permalink | Comments (0) | TrackBack (0)

Thursday, February 2, 2012

Senate Passes STOCK Act by 96-3 vote

The Senate passed, by a vote of 96-3, the STOCK Act, which prohibits members of Congress and their aides from trading on inside information and also requires public officials to disclose their financial transactions within 30 days.

The legislation also contains a number of other provisions, including requiring members of the political intelligence community to disclose their activities.  The House is expected to vote on legislation next week.  WPost, Minor Senate bill transformed into broad reform package

February 2, 2012 in News Stories | Permalink | Comments (0) | TrackBack (0)

NYSE & Deutsche Boerse Call It Off

It's official -- the NYSE and Deutsche Boerse merger is over:

NYSE Euronext (NYSE: NYX) announced today that in light of the decision by the European Commission to block the proposed merger agreement,  both companies have agreed to a mutual termination of the business combination agreement originally signed by the Companies on February 15, 2011.

It will be interesting to see what is Plan B for the Exchange.  This is a big setback on its plans to dominate the global markets.

February 2, 2012 in News Stories | Permalink | Comments (0) | TrackBack (0)

Schwab Goes to Court to Uphold its Class Action Waiver

Recently I wrote an article in which I explored the question of why no brokerage firm seeks to attract retail investors by advertising that it does not require its customers to enter into mandatory predispute arbitration agreements.  Barbara Black, Can Behavioral Economics Inform Our Understanding of Securities Arbitration?, 12 Transactions: The Tennessee Journal of Business Law 107 (2011).  Charles Schwab, apparently, has chosen a different strategy.  In fall 2011 the firm amended its customer agreements to include a provision requiring customers to waive their rights to bring or participate in class actions against the firm and also states that arbitrators do not have the authority to consolidate claims.  In a blog yesterday, I described FINRA's enforcement proceeding against Schwab, which charges that both these provisions violate FINRA rules.

Schwab has responded to the FINRA action by filing a declaratory judgment action in federal district court in Northern California, seeking a determination that the agreements are enforceable under recent U.S. Supreme Court opinions, AT&T Mobility v. Concepcion and Compucredit Corp. v. Greenwood.  As reported in BNA Securities Daily, the company stated that class actions are "unduly expensive and time-consuming, and too often result in little benefit to class members" and that class action waivers are "in the best interests of both its customers and its shareholders."

We now have the Carlyle Group, in its IPO, seeking to bar investors' class claims and Schwab seeking, in its brokerage agreement, to bar customers' class claims.  Both are directly attributable to Concepcion.  If these provisions are legal and enforceable, securities class claims will soon be a thing of the past; the Supreme Court will have accomplished what millions of lobbyists' dollars could not.  Where does the Securities and Exchange Commmission, the self-proclaimed investors' advocate, stand on these developments?

February 2, 2012 in Securities Arbitration | Permalink | Comments (0) | TrackBack (0)

Second Circuit Again Rules that Class Action Waiver In American Express Merchants Agreements is Unenforceable

In a victory for consumer and investor advocates, the Second Circuit reaffirmed its decision in In re American Express Merchants' Litigation, 634 F.3d 187 (2d Cir. 2011) (Amex II) that the class action waiver provision contained in the contracts between American Express and merchants is unenforceable under the Federal Arbitration Act (FAA), because enforcement of the clause would as a practical matter preclude any action seeking to vindicate the statutory rights asserted by the plaintiffs.  The Second Circuit ruled that the U.S. Supreme Court's recent opinion in AT&T Mobility v. Concepcion did not alter its analysis.  In re American Express Merchants' Litigation (Amex III) (2d Cir. Feb. 1, 2012) Download AmericanExpress.020112[2]

The Second Circuit has now issued three opinons on this question, necessitated by recent Supreme Court pronouncements.  In Amex I, 554 F.3d 300 (2d Cir. 2009), the court considered the enforcement of a mandatory arbitration clause in a commercial contract that also contained a class action waiver and determined that it was unenforceable.  The court reasoned that the high costs of litigating an antitrust claim ruled out individual claims and meant that without a class action plaintiffs would have no remedy.  The Supreme Court granted Amex's petition for certiorari and vacated and remanded in light of its decision in Stolt-Nielsen S.A. v. AnimalFeeds Int'l Corp., 130 S. Ct. 1758 (2010), which held that parties could not be compelled to submit to class arbitration unless they agreed to it.  In Amex II, the Second Circuit found that Stolt-Nielsen did not affect its original analysis, since the court acknowledged that it could not, and thus were not, ordering the parties to participate in class arbitration.  After Amex II, the court placed a hold on its mandate in order for Amex to file a petition for certiorari.  While the mandate was on hold, the Supreme issued Concepcion, which held that the FAA preempted a California law barring enforcement of class action waivers in consumer contracts.  The Second Circuit then sua sponte considered rehearing in light of Concepcion, and parties submitted supplemental briefing on the question.

In Amex III, the Second Circuit, in response to Amex's argument that Concepcion applies a fortiorari and requires reversal, observes that

[I]t is tempting to give both Concepcion and Stolt-Nielsen such a facile reading, and find that the cases render class arbitration waivers per se enforceable. But a careful reading of the cases demonstrates that neither one addresses the issue presented here: whether a class-action arbitration waiver clause is enforceable even if the plaintiffs are able to demonstrate that the practical effect of enforcement would be to preclude their ability to vindicate their federal statutory rights.

*    *    *    *

Concepcion plainly offers a path for analyzing whether a state contract law is preempted by the FAA.  Here, however, our holding rests squarely on a "vindication of statutory rights analysis, which is part of the federal substantive law of arbitrability."

Accordingly, since Concepcion and Stolt-Nielsen do not answer the question, the Second Circuit looked for guidance in other Supreme Court decisions addressing the issue of vindicating federal statutory rights in arbitration.  The court begins its analysis with precedent acknowledging the importance of class actions in vindicating statutory rights and then proceeds to a discussion of arbitration, also recognized as an effective vehicle for vindicating statutory rights, so long as the litigant can effectively vindicate its statutory cause of action in arbitration (citing Mitsubishi Motors Corp. v. Soler Chrysler-Plymouth, Inc.)  Most recently, in Green Tree Financial Corp.-Alabama v. Randolph, 531 U.S. 79 (2000), the Supreme Court acknowledged in dicta "that the existence of large arbitration costs could preclude a litigant ... from effectively vindicating her federal statutory rights in the arbitral forum."

Because neither Stolt-Nielsen nor Concepcion overrules Mitsubishi and neither even mentions Green Tree, the Second Circut, in Amex III, reaffirms its earlier analysis in Amex II:  because plaintiffs' expert evidence establishes as a matter of law that the cost of plaintiffs' individually arbitrating their disputes with Amex would be prohibitive, the effect of enforcing the class-action waiver is to ensure that the merchants could not challenge Amex's tying arrangements under the antitrust laws.  Accordingly, the clause is unenforceable under the FAA.  The court made clear that each class-action waiver must be considered on its own merits, based on its own record and "governed with a healthy regard for the fact that the FAA 'is a congressional declaration of a liberal federal policy favoring arbitration agreements ....'"

We can expect that Amex will again seek a petition for certiorari.  Stay tuned!  In the meantime, kudos to the Second Circuit for a well-reasoned and eloquent opinion on the importance of class actions in enforcing federal statutory rights.

February 2, 2012 in Judicial Opinions | Permalink | Comments (1) | TrackBack (0)

Wednesday, February 1, 2012

DOJ & SEC Charge Former Credit Suisse Traders with Subprime Bond Pricing Scheme

The DOJ and the SEC brought criminal and civil charges against former Credit Suisse bankers alleging misstatements about the bank's valuations of $3 billion in subprime mortgage-backed securities during the financial crisis.  A former trader, Salmaan Siddiqui, and his supervisor, David Higgs, pleaded guilty to a criminal conspiracy charge.  The former global head of the Structured Credit Trading unit, Kareem Serageldin, was also charged; he is believed to be in the UK.  Credit Suisse was not charged.

According to the SEC, the employees deliberately ignored specific market information showing a sharp decline in the price of subprime bonds under the control of their group. They instead priced them in a way that allowed Credit Suisse to achieve fictional profits. Serageldin and Higgs periodically directed the traders to change the bond prices in order to hit daily and monthly profit targets, cover up losses in other trading books, and send a message to senior management about their group’s profitability. The SEC alleges that the mispricing scheme was driven in part by these investment bankers’ desire for lavish year-end bonuses and, in the case of Serageldin, a promotion into the senior-most echelon of Credit Suisse’s investment banking unit.

The SEC alleges that the scheme reached its peak at the end of 2007, when the group recorded falsely overstated year-end prices for the subprime bonds. Just days later in a recorded call, Serageldin and Higgs acknowledged that the year-end prices were too high and expressed a concern that risk personnel at Credit Suisse would “spot” their mispricing. Despite acknowledging that the subprime bonds were mispriced, Serageldin approved his group’s year-end results without making any effort to correct the prices. When the mispricing was eventually detected in February 2008, Credit Suisse disclosed $2.65 billion in additional subprime-related losses related to the investment bankers’ misconduct.

The SEC explained that its decision not to charge Credit Suisse was influenced by several factors, including the isolated nature of the wrongdoing and Credit Suisse’s immediate self-reporting to the SEC and other law enforcement agencies as well as prompt public disclosure of corrected financial results. Credit Suisse voluntarily terminated the four investment bankers and implemented enhanced internal controls to prevent a recurrence of the misconduct. Credit Suisse also cooperated vigorously with the SEC’s investigation of this matter.

WSJ, Ex-Credit Suisse Employees Face Charges in Mortgage-Bond Probe .

February 1, 2012 in SEC Action | Permalink | Comments (0) | TrackBack (0)

FINRA: Schwab Improperly Requires Customers to Waive Class Actions

Will Charles Schwab get away with including a class action waiver in its customer agreements?

FINRA announced today that it has filed a complaint against Charles Schwab & Company charging the firm with violating FINRA rules by requiring its customers to waive their rights to bring class actions against the firm.  FINRA's complaint charges that in October 2011, Schwab amended its customer account agreement to include a provision requiring customers to waive their rights to bring or participate in class actions against the firm. Schwab sent the amended agreements to nearly 7 million customers.  The agreement also included a provision requiring customers to agree that arbitrators in arbitration proceedings would not have the authority to consolidate more than one party's claims. FINRA's complaint charges that both provisions violate FINRA rules concerning language or conditions that firms may place in customer agreements. 

Specifically, the class action waiver violates NASD Rule 3110(f)(4)(C) and FINRA Rule 2268(d)(3), both of which prohibit member firms from including any condition in a predispute arbitration agreement that "limits the ability of a party to file any claim in court permitted to be filed in court under the rules of the forums in which a claim may be filed under the agreement."  The class action waiver also violates NASD Rule 3110(f)(4)(A) and FINRA Rule 2268(d)(1), which prohibit member firms from including any condition in the agreement that limits or contradicts the rules of any self-regulatory organization," because Rule 12204(d) provides that customers can bring and participate in class actions in the manner provided in the rule.  Similarly, the provision that purports to limit the ability of arbitrators to consolidate claims of more than one party violates NASD Rule 3110(f)(4)(A) and FINRA Rule 2268(d)(1) because it contradicts Rule 12312(a) and (b) that provide that arbitrators have the authority to consolidate claims under certain curcumstances.

FINRA's complaint seeks an expedited hearing because Schwab's conduct is ongoing, as the firm has continued to use account agreements containing these provisions in opening more than 50,000 new customer accounts since October 2011.

Download FINRA.SchwabComplaint


February 1, 2012 in Other Regulatory Action | Permalink | Comments (0) | TrackBack (0)

Tuesday, January 31, 2012

Will STOCK Act "Repair Deficit of Trust Between Washington and the American People"?

Spurred on by President Obama's State of the Union address, the Senate yesterday voted, by a vote of 93-2,  to take up the Stop Trading on Congressional Knowledge Act of 2012 (STOCK Act).  This would allow the Senate to move on to consideration of the bill.  The White House issued a statement, calling it "an important step to repair the deficit of trust between Washington and the American people."

S. 2038(Download 112th_S.2038[1]) would prohibit members of Congress and Congressional employees from using any nonpublic information derived from the individual's position, or gained from performance of the individual's duties, for personal benefit.  It would make clear that members and employees are not exempt from the insider trading prohibitions and owe a duty of trust and confidence to Congress, the U.S. government and its citizens.  The SEC is also given authority to issue rules to implement the prohibition.

In addition, the bill would require public filing and disclosure of financial disclosure forms of members of Congress and Congressional staff.

There has been no action on the proposed legislation at the House.

January 31, 2012 in News Stories | Permalink | Comments (0) | TrackBack (0)

Monday, January 30, 2012

SEC Charges Former Execs at British Sub of NYSE Company with Accounting Fraud

The SEC charged four former senior executives and accountants at the British subsidiary of NYSE-listed Symmetry Medical Inc, a manufacturer of medical devices and aerospace products, for their roles in an accounting fraud that was so pervasive that it distorted the financial statements of the parent company.  The SEC also reached settlements with the company’s former CEO and current CFO, who were not involved or aware of the scheme at the subsidiary, to recover bonus compensation and stock profits they received while the fraud was occurring and inflating company profits.

The SEC alleges that vice president for European operations Richard J. Senior, finance director Matthew Bell, controller Lynne Norman, and management accountant Shaun P. Whiteley orchestrated and carried out the fraud at Thornton Precision Components (TPC), which is the Sheffield, England-based subsidiary of Symmetry Medical Inc. The accounting scheme involved the systematic understatement of expenses and overstatement of assets and revenues at TPC, and materially distorted Symmetry’s financial statements for a three-year period.

The four executives and accountants, as well as Symmetry in a separate administrative proceeding, agreed to settle the SEC’s charges, and the subsidiary’s two outside auditors formerly of Ernst & Young LLP UK agreed to suspensions for their deficient audits.

According to the SEC’s complaint filed in federal court in South Bend, Ind., Symmetry’s annual financial statements for 2005 and 2006 as well as other reporting periods were materially misstated as a result of misconduct in the reporting of TPC’s financials. In a separate complaint also filed in the same federal court, the SEC is seeking reimbursement for bonuses and other incentive-based and equity-based compensation received by Symmetry’s former CEO Brian S. Moore under Section 304 of the Sarbanes-Oxley Act. Under the settlement, subject to court approval, Moore agreed to reimburse $450,000 to Symmetry.

The SEC also instituted separate settled administrative proceedings against Symmetry and its CFO Fred L. Hite. The SEC finds that Hite failed to provide an internal audit status report concerning TPC to Symmetry’s Audit Committee in July 2006. For its part, Symmetry agreed to a cease-and-desist order against future financial reporting, books-and-records and internal controls violations.

The SEC separately instituted and settled administrative proceedings against two associate chartered accountants in the United Kingdom – Christopher J. Kelly and Margaret Hebb née Whyte – who were the former audit partner and audit manager on Ernst & Young LLP UK’s audits of TPC for its 2004 to 2006 fiscal years (in the case of Kelly) and its 2005 and 2006 fiscal years (in the case of Hebb).  

January 30, 2012 in SEC Action | Permalink | Comments (0) | TrackBack (0)

FINRA Reports that 76% of Investors Chose All-Public Panels in First Year of Choice

On Feb. 1, 2011, the SEC approved the FINRA rule change that permits customers to select panels consisting solely of all-public arbitrators (i.e., no industry arbitrator).  After nearly a year in operation, Linda Fienberg, head of FINRA's arbitration program, reports that 76% of investors chose the all-public option, according to Investment News.  Ms. Fienberg says this is a "bit surprising," because the numbers in the pilot program were lower.  The pilot program, however, could only be used by customers of a few large brokerage firms that voluntarily participated and could not be used in cases where the individual registered representative was named as a party.

Do all-public panels arrive at results that are more favorable to investors?  There has not yet been examination of the data, and this will certainly be carefully watched by observers.  Meanwhile, the consensus is that the FINRA arbitration forum gets high marks for instituting this change.

Perhaps, in light of the popularity of the all-public panel (a result that does not surprise me), FINRA will next consider a rule change to make all-public panels the default option.  Under the current rule, unless the all-public panel is selected within a relatively short time frame, the claimant is stuck with the default choice -- one industry and two public arbitrators.  This can create confusion and an unfortunate choice by the per se claimant or inexperienced counsel.

Inv News, All-public panels are a hit with investors, Finra says

January 30, 2012 in Securities Arbitration | Permalink | Comments (0) | TrackBack (0)