Securities Law Prof Blog

Treasury Named as Selling Shareholder in Ally Financial Inc.’s IPO Registration Statement

The U.S. Department of the Treasury today announced that it has agreed to be named as a selling shareholder of common stock of Ally Financial Inc. (Ally) in Ally’s registration statement filed with the Securities and Exchange Commission (SEC) for a proposed initial public offering.  Treasury will retain the right, at all times, to decide whether and at what level to participate in the offering.
 
Treasury owns approximately 74 percent of the issued and outstanding common stock of Ally, as of December 31, 2010, as well as approximately $5.9 billion of mandatorily convertible preferred stock.   
 
Citi, Goldman, Sachs & Co., J.P. Morgan and Morgan Stanley are acting as Joint Bookrunners for the offering.   
 

Agencies Propose Incentive-based Compensation Arrangements

The Office of the Comptroller of the Currency, Treasury (OCC); Board of Governors of the Federal Reserve System (Board); Federal Deposit Insurance Corporation (FDIC); Office of Thrift Supervision, Treasury (OTS); National Credit Union Administration (NCUA); U.S. Securities and Exchange Commission (SEC); and Federal Housing Finance Agency (FHFA) (the Agencies) are proposing rules to implement section 956 of the Dodd-Frank Wall Street Reform and Consumer Protection Act. The proposed rule would require the reporting of incentive-based compensation arrangements by a covered financial institution and prohibit incentive-based compensation arrangements at a covered financial institution that provide excessive compensation or that could expose the institution to inappropriate risks that could lead to material financial loss.

FINRA Arb Panel Orders Broker to Pay $1 Million to Madoff Investors

The Wall St. Journal reports that a FINRA arbitration panel ordered Robert M. Jaffe, a part-owner of Cohmad Securities Corp., to pay $1.1 million plus interest to a group of investors formed to invest in Bernie Madoff's ponzi scheme.  Jaffe and Cohmad previously settled SEC charges that they received millions of dollars from Madoff for steering investors to him.  WSJ, Broker Tied to Madoff Ordered to Pay $1.1 Million

Debating the Costs of Dodd-Frank

This from the House Financial Services Committee website:

The Dodd-Frank Act will result in a bigger and more expensive Federal government. 

That’s the point the Financial Services Committee is driving home in a video released on Wednesday.  The video, which can be viewed on the Committee’s website and on YouTube, coincides with a hearing of the Oversight and Investigations Subcommittee on the budgetary and economic costs of implementing Dodd-Frank.  The Government Accountability Office estimates it will cost $2.9 billion to implement the law over five years.  The Federal government workforce will also have to increase by 2,600 new full-time employees, according to the GAO.

And this from Representative Barney Frank:

“The press has reported on a yet-to-be-released study by the Government Accountability Office stating that it will cost up to $2.9 billion over five years to implement the Wall Street Reform and Consumer Protection Act.”

“When the details of the report are made public, it will be important to put the cost analysis in proper perspective – there would be absolutely no cost to taxpayers if Republicans had not succeeded in stripping the funding mechanism from the bill during the conference committee.”

Proposed Rules on Credit Risk Retention Are Published

These agencies (Office of the Comptroller of the Currency, Treasury; Board of Governors of the Federal Reserve System; Federal Deposit Insurance Corporation; U.S. Securities and Exchange Commission; Federal Housing Finance Agency; and Department of Housing and Urban Development) are proposing rules to implement the credit risk retention requirements of section 15G of the Securities Exchange Act of 1934, as added by section 941 of the Dodd-Frank Act. Section 15G generally requires the securitizer of asset-backed securities to retain not less than five percent of the credit risk of the assets collateralizing the asset-backed securities. Section 15G includes a variety of exemptions from these requirements, including an exemption for asset-backed securities that are collateralized exclusively by residential mortgages that qualify as “qualified residential mortgages,” as such term is defined by the Agencies by rule.  Comments must be received by June 10, 2011.

SEC Proposes Rules Requiring Listing Standards for Compensation Committees and Compensation Consultants

The SEC today voted unanimously to propose rules directing the national securities exchanges to adopt certain listing standards related to the compensation committee of a company’s board of directors as well as its compensation advisers, as required by the Dodd-Frank Act.  The SEC’s proposal also would require new disclosures from companies concerning their use of compensation consultants and conflicts of interest.

In particular, the proposal requires the “listing standards” to address the independence of the members on a compensation committee, the committee’s authority to retain compensation advisers, and the committee’s responsibility for the appointment, payment and work of any compensation adviser.

Public comments on the rule proposal should be received by April 29, 2011.

March 30 SEC Meeting Takes Up Credit Risk Retention, Listing Standards for Compensation Committees

SEC Open Meeting Agenda, March 30, 2011

Item 1:
 CREDIT RISK RETENTION
 Office:
 Division of Corporation Finance
 
The Commission will consider whether to propose joint rules with other Agencies to implement Section 941(b) of the Dodd-Frank Wall Street Reform and Consumer Protection Act relating to credit risk retention by securitizers of asset-backed securities.

Item 2:
 LISTING STANDARDS FOR COMPENSATION COMMITTEES
 Office:
 Division of Corporation Finance

The Commission will consider whether to propose a new rule and rule amendments to implement Section 952 of the Dodd-Frank Wall Street Reform and Consumer Protection Act, which requires the Commission to direct the national securities exchanges and national securities associations to adopt certain listing standards with respect to compensation committees and compensation advisers. Section 952 also requires the Commission to adopt new disclosure rules concerning the use of compensation consultants and conflicts of interest.

SEC CHARGES FDA CHEMIST WITH INSIDER TRADING AHEAD OF DRUG APPROVAL ANNOUNCEMENTS

The SEC charged Cheng Yi Liang, a U.S. Food and Drug Administration (FDA) chemist, with insider trading on confidential information about upcoming announcements of FDA drug approval decisions, generating more than $3.6 million in illicit profits and avoided losses.  According to the SEC, Liang illegally traded in advance of at least 27 public announcements about FDA drug approval decisions involving 19 publicly traded companies. Some announcements concerned the FDA’s approval of new drugs while others concerned negative FDA decisions. Liang went to great lengths to conceal his insider trading. He traded in seven brokerage accounts, none of which were in his name. One belonged to his 84-year-old mother who lives in China.

In a parallel action, criminal charges filed by the Department of Justice against Liang were unsealed today.

According to the SEC’s complaint, Liang works in the FDA’s Center for Drug Evaluation and Research. Beginning as early as July 2006, Liang purchased shares for a profit before 19 positive announcements regarding FDA decisions, shorted stock for a profit before six negative announcements, and sold shares to avoid losses before two negative announcements.

The SEC’s complaint seeks a permanent injunction against future violations, disgorgement of unlawful trading profits and losses avoided plus prejudgment interest, and a financial penalty. The SEC’s complaint names Liang’s wife Yi Zhuge and the account holders for the seven trading accounts he used  as relief defendants.

SEC Charges Stock Promoters with Market Manipulation

The SEC announced that it filed a civil injunctive action against Joseph Catapano ("Catapano") and Michael Piervinanzi ("Piervinanzi"), alleging that they engaged in a fraudulent broker bribery scheme designed to manipulate the market for the common stock of Euro Solar Parks, Inc. ("Euro Solar").  The complaint, filed on March 25, 2011 in federal court in Brooklyn, New York, alleges that beginning in at least February 2011, Catapano and Piervinanzi engaged in an undisclosed kickback arrangement with an individual ("Individual A") who claimed to represent a group of registered representatives with trading discretion over the accounts of wealthy customers. Catapano and Piervinanzi promised to pay a 30% kickback to Individual A and the registered representatives he purported to represent in exchange for the purchase of up to $3 million of Euro Solar stock through the customers' accounts.

The complaint further alleges that from February 16-18, 2011, Catapano instructed Individual A to purchase approximately 130,000 shares of Euro Solar stock for a total of approximately $31,000 through matched trades using detailed instructions concerning the size, price and timing of the purchase orders. Thereafter, Catapano paid Individual A a bribe of $8,800.

The Commission seeks permanent injunctive relief from the Defendants, disgorgement of ill-gotten gains, if any, plus pre-judgment interest, and civil penalties from Catapano and Piervinanzi, and a judgment prohibiting Piervinanzi from participating in any offering of penny stock.

Agencies Announce Consideration of Risk Retention Notice of Proposed Rulemaking

The staffs of the Office of the Comptroller of the Currency, the Federal Reserve, the Federal Deposit Insurance Corporation, the Securities and Exchange Commission, the Federal Housing Finance Agency, and the Department of Housing and Urban Development (together, the agencies) announced that the agencies this week are considering for approval a notice of proposed rulemaking that addresses section 941 of the Dodd-Frank Wall Street Reform and Consumer Protection Act. All of the agencies participating in this joint rulemaking process are expected to consider the rule this week and a detailed announcement will be made when this process is complete. If approved, the agencies will publish in the Federal Register a notice of proposed rulemaking for public comment.

Section 941 requires the agencies to prescribe rules to require that a securitizer retain an economic interest in a material portion of the credit risk for any asset that it transfers, sells, or conveys to a third party. The chairperson of the Financial Stability Oversight Council is tasked with coordinating this rule making effort.

SEC Settles Fraud Charges Against Houston Businessman in Connection with Investment Advisory Firm

On March 25, 2011, the SEC filed suit in U.S. District Court in Houston against Daniel Sholom Frishberg (“Frishberg”), principal of Daniel Frishberg Financial Services (“DFFS”), a Commission-registered investment adviser. The Commission alleges that DFFS, with Frishberg’s approval, advised its clients to invest in notes issued by Kaleta Capital Management (“KCM”), a private company owned by Frishberg associate Albert Fase Kaleta, and by Business Radio Networks, L.P. d/b/a “BizRadio” (“BizRadio”), a struggling media company controlled by Frishberg and Kaleta. According to the complaint, Frishberg authorized Kaleta to offer the notes to clients, but failed to provide clients with critical disclosures. The Commission alleges, for example, that investors were not told of BizRadio’s poor financial condition and likely inability to repay its notes. The Commission further alleges that investors were not told of Frishberg’s significant conflicts of interest in the note offerings, such as the fact that the note proceeds funded BizRadio’s operating expenses, including Frishberg’s and Kaleta’s salaries. 

Without admitting or denying the Commission’s allegations, Frishberg consented to the entry of a permanent injunction against these violations and to pay a $65,000 civil penalty. Frishberg has also consented to the institution of follow-on administrative proceedings that will bar him from association with an investment adviser.

SEC OBTAINS ASSET FREEZE AND OTHER RELIEF IN $47 MILLION OFFERING FRAUD

On March 25, 2011, the SEC obtained an emergency asset freeze in a $47 million offering fraud and Ponzi scheme orchestrated by John Scott Clark (Clark) through Impact Cash, LLC and Impact Payment Systems, LLC (collectively Impact), companies owned and controlled by Clark, which operated an online payday loan company. In addition to the asset freeze, the court has appointed a receiver to preserve and marshal assets for the benefit of investors. That Receiver is Gil A. Miller.

The complaint alleges that from March 2006 through September 2010, Impact and Clark (by himself and through sales persons) raised more than $47 million from at least 120 investors for the stated purposes of funding payday loans, purchasing lists of leads for payday loan customers, and paying the operating expenses of Impact. The complaint further alleges that Clark did not deploy investor capital to make payday loans as represented, but instead diverted investor funds to maintain a lavish lifestyle, including buying expensive cars, art and a home theatre system. Clark also misappropriated investor money to fund outside business ventures and used new investor funds to pay purported profits to earlier investors.

The complaint seeks a preliminary and permanent injunction as well as disgorgement, prejudgment interest and civil penalties from Impact and Clark.

SEC Blocks Connecticut Fund Manager's Attempt to Divert Funds From Petters Ponzi Scheme Victims

The SEC announced it obtained an emergency court order to halt an attempt by Marlon M. Quan, a Connecticut-based fund manager, to divert to himself and others settlement funds intended for U.S. victims of a Ponzi scheme operated by Minnesota businessman Thomas Petters.  According to the SEC, Quan facilitated the Petters fraud by funneling several hundred million dollars of investor money into the scheme. The SEC alleges that Quan and his firms (Stewardship Investment Advisors LLC and Acorn Capital Group LLC) invested hedge fund assets with Petters while pocketing more than $90 million in fees. They falsely assured investors that their money would be safeguarded by “lock box accounts” to protect them against defaults. When Petters was unable to make payments on investments held by the funds that Quan managed, Quan and his firms concealed Petters’s defaults from investors by concocting sham round trip transactions with Petters.

In its emergency court action, the SEC alleges that Quan, despite a glaring conflict of interest, more recently negotiated an agreement to divert a settlement payment of approximately $14 million relating to a receivership and a bankruptcy of Petters’s entities. Although he purportedly negotiated on behalf of his U.S. fund investors, Quan’s U.S. victims would receive no money under this agreement.

At the SEC’s request, the Honorable Ann D. Montgomery of the U.S. District Court for the District of Minnesota ordered that the money – paid into a firm affiliated with Quan’s Acorn Capital Group LLC – be placed into a segregated account and frozen until further order of the court. A hearing will be held on April 14 to determine the SEC’s request for additional emergency relief for investors.

The SEC previously charged Petters and Illinois-based fund manager Gregory M. Bell with fraud, and filed additional charges against Florida-based hedge fund managers Bruce F. Prévost and David W. Harrold for facilitating the Petters Ponzi scheme.  According to the SEC’s complaint, Petters sold promissory notes to feeder funds like those controlled by Quan and his firms. The SEC alleges that Quan and his firms funneled money into the Petters Ponzi scheme beginning as early as 2001 and continuing through 2008.

The SEC seeks entry of a court order of permanent injunction against Quan and his firms as well as an order of disgorgement, prejudgment interest and financial penalties. The SEC also seeks equitable relief against relief defendants Florene Quan, wife of Defendant Quan, and Asset Based Resource Group LLC, an affiliate of corn Capital Group LLC.

Fairfax on the Inside Director

The Uneasy Case for the Inside Director, by Lisa M. Fairfax, George Washington University - Law School, was recently posted on SSRN.  Here is the abstract:

In the wake of recent scandals and the economic meltdown, there is nearly universal support for the notion that corporations must have independent directors. Conventional wisdom insists that independent directors can more effectively monitor the corporation and prevent or otherwise better detect wrongdoing. As the movement to increase director independence has gained traction, inside directors have become an endangered species, relegated to holding a minimal number of seats on the corporate board. This Article questions the popular trend away from inside directors by critiquing the rationales in favor of director independence, and assessing the potential advantages of inside directors. This Article argues that the value of independent directors has been overstated, while the value of inside directors has been under-appreciated and under-examined. This argument rests on three critical points. First, independent directors are constrained in their ability to perform their monitoring functions, and many of these constraints may be insurmountable – particularly as we increase independent directors’ responsibilities. Second, inside directors can make valuable, and often overlooked, contributions to board governance. Third, reliance on independent directors as a substitute for external regulation is inappropriate and potentially costly. To this end, this Article suggests that inside directors may serve an important signaling function, underscoring the need for enhanced regulation, while ensuring that corporate monitors are subject to appropriate liability and therefore have increased incentives to perform their responsibilities.

To be sure, the case for the inside director is not an easy one, particularly given that any benefits such directors bring to the board come with costs, including the potential for self-dealing and overreaching. However, before we render inside directors extinct, we first should determine whether their costs are outweighed by their benefits.

Schwarcz on Assessing Dodd-Frank

Keynote Address – Identifying and Managing Systemic Risk: An Assessment of Our Progress, by Steven L. Schwarcz, Duke University - School of Law, was recently posted on SSRN.  Here is the abstract:

 This short address attempts to provide a succinct overview, critiquing how well the Dodd-Frank Act identifies and manages systemic risk. Keynote address given at AGEP Advanced Policy Institute on Financial Services Regulation, George Mason University, March 10, 2011.

Third Week of Rajaratnam's Trial: Testimony from Goldman CEO

During the third week of Raj Rajaratnam's trial, the star witness was clearly Goldman Sachs CEO Lloyd Blankfein, who testified on Wednesday.  The government called him to testify that Rajat Gupta, the former Goldman director, violated the company's confidentiality policy when Gupta gave RR information that he learned in his capacity as Goldman director.  Although Gupta is not a defendant in the criminal action (the SEC has brought a civil administrative proceeding against him), his alleged tipping to RR has played a prominent role; during the first days of the trial, the government played a tape of a conversation between the two men, in which Gupta tells RR about board discussions (including Warren Buffet's proposal to invest in Goldman during the financial crisis).  RR's defense attorney, on cross, asked Blankfein about the March 2010 Goldman press release on Gupta's stepping down from the board and whether Blankfein was aware of the government investigation into Gupta?  Blankfein said that he knew there were "some questions" about Gupta's behavior.  (The judge did not allow the defense to elicit much testimony about Goldman's role in the financial crisis.)

The other important witness this week was Rajiv Goel, a former intel executive and longtime friend of RR, who has pleaded guilty to illegally tipping RR.  The government played more tapes of phone conversations between Goel and RR and also presented an Intel executive as a witness to establish that Goel had access to confidential information and that Intel would have fired Goel if it knew he was sharing it with RR.  When Goel took the stand, he testified that he gave RR secret information about Intel because of friendship.  He also testified about the benefits he received from RR: hundreds of thousands of dollars, plus RR made profitable trades in Goel's stock trading account (using inside information, according to the government, which spent a lot of time on these trades).

The strategies of the opposing sides are playing out as predicted.  The government presents tape after tape in which RR is apparently soliciting and receiving inside information from the other party.  Two witnesses who have pleaded guilty to illegal tipping, Anil Kumar last week and Rajiv Goel this week, have testified at length about the confidential information that each of them says he passed on to RR.  Two witnesses (Goldman CEO, Intel exec) have testified about their companies' confidentiality policies. The defense, in turn, introduces research reports and news reports in order to show that the shared information was either already known in the marketplace or was immaterial.

FINRA CEO Speaks on Self-Regulation of Investment Advisers

Richard Ketchum, FINRA CEO, spoke on March 22 at the SIFMA Compliance and Legal Division's Annual Seminar and addressed the issue of FINRA's becoming an SRO for investment advisers, a possibility that most investment advisers oppose.  In his prepared remarks, Ketchum stated:

Specifically, whenever the discussion moves to whether FINRA should be the SRO for investment advisers, the talking points for IAs in opposition are simple: FINRA is not qualified because it only regulates broker-dealers and therefore doesn't understand the differences between the two models—meaning the end result would be that IAs would be forced to live under a broker-dealer regime. Frankly, that's simply wrong.

First, let me agree that there are important differences between broker-dealers and investment advisers. Any entity that would be empowered to oversee IAs would need to recognize that and regulate accordingly—and FINRA most certainly would.

If FINRA became the SRO for some or all investment advisers, we would have no intention to force the full suite of specific broker-dealer requirements on investment advisers. That would not be appropriate or in the public interest. The regulatory concerns regarding investment advisers primarily relate to the lack of examination resources, which places advisory clients at unacceptable risk, which is why we have said, and will continue to say, that SROs—especially for stand-alone IAs—should be viewed as a positive development for investors. No matter how rigorous the regulatory requirements, an adviser's obligations may provide only hollow protection to investors absent rigorous examination and enforcement. That's a service FINRA is well-positioned to provide.

FINRA would implement regulatory oversight that is tailored to the particular characteristics of the investment adviser business. We would have authority to examine for, and enforce compliance with, the Investment Advisers Act and the SEC rules under that Act. We don't see the necessity for extensive SRO rulemaking and believe that the extent of that authority should be fully a matter for the SEC to determine. Of course, as it does with SROs now, the Commission would approve all rules. FINRA and its predecessor entities have operated under a similar regime for more than 70 years and would have no problem operating the same way in the IA space.

The other red herring related to FINRA serving as an IA SRO is that our governance structure would only reflect broker-dealer interests and not have IA representation. As we stated in our comment letter to the SEC—and as I have said many times—if FINRA becomes the SRO for investment advisers, our governance structure would appropriately reflect investment advisers. This would be carried out most effectively by setting up a separate affiliate that would have a board comprised of majority public representatives, but members of the investment adviser industry would be allocated the remaining seats.

The debate on how best to increase the oversight of investment advisers is one worth having, but the problem is too significant to let it wallow. As a proud "alumni" of the SEC, I would never suggest the Commission couldn't do the job if it had the resources. But the idle hope of that funding should not justify more delay. As Commissioner Walter said in her statement when the IA report was released, we must act now—investors deserve no less.

SEC Agenda: More Dodd-Frank Implementation

The SEC announced an Open Meeting on March 30, 2011.The subject matters of the Open Meeting will be:

Item 1: The Commission will consider whether to propose joint rules with other Agencies to implement Section 941(b) of the Dodd-Frank Wall Street Reform and Consumer Protection Act relating to credit risk retention by securitizers of asset-backed securities.

Item 2: The Commission will consider whether to propose a new rule and rule amendments to implement Section 952 of the Dodd-Frank Wall Street Reform and Consumer Protection Act, which requires the Commission to direct the national securities exchanges and national securities associations to adopt certain listing standards with respect to compensation committees and compensation advisers. Section 952 also requires the Commission to adopt new disclosure rules concerning the use of compensation consultants and conflicts of interest.

Will Ameriprise Bail Out Securities America?

Reuters reported earlier today that Ameriprise Financial doesn't want to bail out Securities America.  If so, its brokerage unit would likely go under because of the huge liability resulting from customers' claims (both in a class action and arbitrations) stemming from SA's sales in private placements of securities in Provident Royalties and Medical Capital Holdings.  Last week a federal district judge rejected a $21 million class action settlement of the class action.

But maybe Ameriprise is just posturing.  After the class action settlement was rejected, lawyers for investors, Ameriprise and SA started mediation.  If Ameriprise is willing to walk away, it certainly impacts the bottom line.  Investment News (which has provided excellent coverage of this drama) quotes an industry source this afternoon that who would be "shocked" if Ameriprise let SA collapse.

Stay tuned!

 

Judge Rakoff Challenges SEC Practice of Settling Defendants "Neither Admitting nor Denying"

Judge Jed Rakoff continues to poke and prod the SEC about how the agency negotiates consent judgments.  In SEC v. Vitesse Semiconductor Corp.(Download SEC.VitesseSettlement), the Judge approved the settlement before him, but made it very clear that he has serious difficulties with the SEC's practice of accepting settlements in which the defendants neither admit nor deny the SEC's allegations and whether the practice meets the standards necessary for approval by the court.

The complaint alleged that for more than a decade Vitesse engaged in fraudulent revenue recognition practices and stock options backdatings, allegedly orchestrated by the four individual defendants, the CEO, the CFO, the Controller and the Manager of Finance.  In the Judge's words:

Simultaneous with filing the complaint ..., the SEC -- confident that the courts in this judicial district were no more than rubber stampes -- filed proposed Consent Judgments against Vitesse, Mody, and Kaplan without so much as a word of explanation as to why the Court should approve these Consent Judgments or how the Consent Judgments met the legal standards the Court is required to apply before granting such approval.

After receiving a written submission from the SEC and convening a hearing (at which the Judge did not grant the request to excuse the attendance of the attorneys representing the individual defendants), the Judge was satisfied that the financial terms, although modest,  and the injunctive terms of the proposed settlement met the standard of "fair, reasonable, adequate and in the public interest."

The Judge found much more troubling the requested judicial approval of settlements in which the defendants resolve the serious allegations of fraud brought against them "without admitting or denying the allegations of the Complaint."  Although acknowledging that this is a longstanding policy, the result is a

stew of confusion and hypocrisy unworthy of such a proud agency as the SEC.  The defendant is free to proclaim that he has never remotely admitted the terrible wrongs alleged by the SEC; but, by gosh, he had better be careful not to deny them either (though, as one would expect, his supporters feel no such compunction).  Only one thing is left certain: the public will never know whether the SEC's charges are true, at least not in a way that they can take as established by these proceedings.

Judge Rakoff ultimately decides that the issue is of less significance in this case because the two individual defendants have already admitted their guilt in parallel criminal proceedings and the corporate defendant effectively admitted the allegations by contributing $2.4 million of its stock to a class action settlement and paying a $3 million penalty in the Consent Judgment, leaving it with less than $1.5 million in net operating cash flow.  However, the Judge concludes by describing these as "unusual circumstances" and making clear that he is reserving for the future ""substantial questions of whether the Court can approve other settlements that involve the practice of 'neither admitting nor denying.'"