Securities Law Prof Blog

Gender Parity as an Investment Strategy

There have been conflicting claims about whether the presence of women on corporate boards and in senior management improve the corporate bottom line.  Morgan Stanley is betting that it does; it is starting a "parity portfolio" that will invest in companies that have female representation on boards and cites research that "companies with significant female representation on boards and in senior leadership have stronger financials (return to shareholders, return on assets, return on equity, profit margins) than those that lack gender diversity in leadership."   According to a NY Times Dealbook column, this means companies with at least three women on their boards.  It strikes me that the portfolio won't be investing in a lot of companies!  

Citigroup Settles Securities Class Action for $730 Million

Citigroup Inc. has agreed, subject to court approval, to settle a class action lawsuit brought on behalf of investors who purchased Citigroup debt and preferred stock in four dozen offerings during the period May 11, 2006, through November 28, 2008. Under the terms of the proposed settlement, Citi would pay a total of $730 million.  According to the WSJ, this is the second-largest settlement of investor litigation related to the financial crisis.

Plaintiffs alleged that Citigroup misled them about Citigroup's possible exposure to losses backed by home loans, understated its loss reserves and misrepresented the credit quality of some assets.

 Citigroup states that it denies the allegations and is entering into this settlement "solely to eliminate the uncertainties, burden and expense of further protracted litigation." The company released the following statement:

"This settlement is another significant step toward resolving our exposure to claims arising from the financial crisis, and we look forward to putting this matter behind us. Citi is a fundamentally different company today than at the beginning of the financial crisis. We have overhauled risk management and reduced risk exposures, while shedding assets and businesses that are not core to our strategy. We are completely focused on our clients and generating consistent, high-quality earnings."

 

Mary Jo White Identifies Dodd-Frank and JOBS Act Rulemaking as a Priority

Mary Jo White is testifying today before the Senate Banking Committee about her nomination for Chair of the SEC.  In her written statement (Download White Testimony) she identified the following priorities:

• finish the rulemaking mandates contained in Dodd-Frank and the JOBS Act;
• importance of robust economic analysis in rulemaking;
• strengthen the enforcement function;
• effective regulation of high-speed, high-tech, and dispersed marketplace without undue cost and without undermining its vitality;
• ensure that SEC has the cuttling-edge technology and expertise to keep pace with the markets.

SEC's Insider Trading Case Against Cuban Set for Trial

A Texas federal district court judge denied Mark Cuban's motion to dismiss the SEC's charges of insider trading against him, saying that the SEC could present its case to a jury.  The allegations stem from Cuban's sale, in 2004, of his stake in Mamma.com.  The SEC alleges that he sold his shares after learning the company would issue new shares in a PIPES offering, in violation of a duty he owed to the corporation to refrain from trading on the information.  Cuban has mounted a vigorous defense.  A trial is set for June.

WSJ, SEC Case Against Mavericks Owner Cuban to Proceed .

NASAA Takes on JOBS Act and Seeks Investor Protection Measures

NASAA today unveiled its advocacy agenda calling for affirmative Congressional action to promote investor confidence.  NASAA actively will seek legislation in four specific areas, including legislation to:

• authorize the SEC’s Office of Compliance Inspections and Examinations to collect user fees from the investment advisers it examines;
• permit reasonable civil recovery for fraud associated with crowdfunding and other small offerings;
• strengthen investor protection provisions weakened by the JOBS Act to minimize the Act’s enormous potential for abuse; and
• empower state regulators to curtail the use of mandatory pre-dispute arbitration clauses in contracts between state-registered investment advisers and their clients.

NASAA also is calling on Congress to investigate opaque market activities, including those of “dark pools,” hedge funds and high-frequency traders.

Steven Rattner on the JOBS Act: Bad Law!

Law professors have written thoughtful criticisms warning about the dangers created by the JOBS Act ever since its enactment, and so far as I know, nobody outside the academy has listened.  So I am interested to see if Steven Rattner's op-ed in today's New York Times will get more attention.  Entitled "A Sneaky Way to Deregulate," he aptly describes the legislation as having "little to do with employment; it’s a hodgepodge of provisions that together constitute the greatest loosening of securities regulation in modern history." And he doesn't think that's a good thing!

 He describes the "crowdfunding" provisions -- which allow start-up businesses to solicit funds from unsophisticated investors -- as "pure folly. Buy a lottery ticket instead. Your chance of winning is likely to be higher."

He finds other provisions "less terrifying but still problematic," including the provision that allows private equity and hedge funds to advertise.  Since the successful funds have no trouble raising capital without advertising, he wagers that the funds that will resort to advertising are firms that sophisticated institutional investors wouldn't consider investing in.

Rattner concludes that the jobs created by the JOBS Act may be for lawyers "to clean up the mess that it will create."

Occupy the SEC Sues Agencies to Compel Implementation of Volcker Rule

Members of Occupy the SEC, an unincorporated association that advocates for regulatory reforms in the banking and financial system, have filed suit against Ben Bernanke and other financial regulators in federal district court (E.D.N.Y.), seeking declaratory, injunctive and mandamus relief to compel defendants to issue a joint Final Rulemaking under 12 U.S.C. 1851 or Dodd-Frank 619 (the "Volcker Rule").  Plaintiffs assert that almost three years have passed since the enactment of Dodd-Frank and defendants have yet to finalize regulations implementing the Volcker Rule.  They allege that although some banks have pared down their proprietary trading activities, other banks have not done so, thereby putting at risk money that is held by bank depositors like the plaintiffs.  They assert this violates the mandatory provision that specifies that defendants "shall" adopt rules implementing the provisions of  Dodd-Frank 619 within nine months after completing a study by the FSOC relating to the Volcker Rule, which study was completed in January 2011.  Plaintiffs further assert they have exhausted their administrative remedies, since Occupy the SEC previously issued a 325 page comment letter petitioning the agencies to avoid "any delay in [the Rule's] full and aggressive implementation."  The complaint also alleges that SEC Commissioner Gallagher recently stated publicly that he believed the agencies would be better off prioritizing other matters.  Taylor v. Bernanke, Case 1:13-cv-01013-ARR-JMA Filed 02/26/13

The complaint is available at

http://www.occupythesec.org/files/OSECVolckerComplaint.pdf

 (Thanks to Jennifer Taub for alerting me to this)

Trustee for Medical Capital Notes Settles Investors' Claims for $114 Million

Medical Capital aggressively marketed its promissory notes in "private placements" to thousands of unsophisticated investors from 2003-2007, in what was almost certainly a Ponzi scheme.  Medical Cap collapsed in 2009 after the SEC charged it with fraud, and investors have brought numerous lawsuits and arbitration proceedings against brokers and other intermediaries.  Yesterday the Bank of New York Mellon Corp., a trustee for Medical Cap notes, agreed to pay $114 million to investors.  Investors claimed that Med Cap executives used the account as their personal piggy bank and the bank received substantial fees for its services.  A lawsuit against another trustee, Wells Fargo, continues.

Investment News, Bank of NY Mellon to pay $114M in private-placement settlement

Judge Enjoins Vote of Apple Shareholders on Certificate Amendments

I have previously discussed David Einhorn's lawsuit against Apple, charging that the company violated federal proxy rules because its proposal to amend the company's certificate of incorporation violated the SEC's unbundling rule.  The proposal, if adopted, would amend the certificate of incorporation in several ways.  Einhorn objected to one of them, an amendment eliminating the board's power to issue blalnk check preferred stock without shareholder approval, but said he wanted to vote in favor of the others (amendment to implement majority voting for directors, amendment setting a par value for the stock).  Today a federal district judge agreed with Einhorn and issued an injunction against the shareholder vote, scheduled for February 27. 

WSJ, Judge Grants David Einhorn's Bid To Block Apple Proxy Vote

SEC Says Heiniz Trader was Goldman Private Wealth Client

It has been widely reported that the SEC has undertaken an investigation into suspicious trading in H.J. Heinz options in advance of the announcement that Berkshire Hathaway would acquire the company.  Last week the SEC obtained a freeze order over assets in a trading account.  In a court filing the SEC stated that the unknnown trader is a "private wealth client" of Goldman Sachs.  Goldman informed the SEC that it did not have direct access to information about the owner of the account, which is based in Zurich.

WSJ, Heinz Trader Tied To SEC Probe Was Goldman ‘Private Wealth Client’.

Merck Settles Securities Fraud Class Actions Over Cholesterol Drug Study

Merck agreed to pay $688 million to settle securities fraud class actions claiming that it misled investors by delaying the release of an unfavorable study over the efficacy of its cholesterol drug Vytorin.  Plaintiffs alleged that Merck and Schering-Plough knew of the study for nearly two years, but did not release it until 2008.  After it was made public, the stock prices of both companies dropped, as did the sales of the drug.

A jury trial was scheduled to begin in March.  In the settlement Merck does not admit to any wrongdoing.  Its press release states that:

“This agreement avoids the uncertainties of a jury trial and will resolve all of the remaining litigation in connection with the ENHANCE study,” said Bruce N. Kuhlik, executive vice president and general counsel of Merck. “We believe it is in the best interests of the company and its shareholders to put this matter behind us, and to continue our focus on scientific innovations that improve health worldwide.”

The size of the settlement is impressive because, unlike many securities fraud class actions, there were no parallel government actions.

NYTimes,  Merck Settles Investor Suits Over Cholesterol Drug

Former Stanford Execs Get 20-Year Sentences for Role in Ponzi Scheme

Two former executives of Stanford Financial Group were sentenced today for their roles in Allen Stanford's Ponzi scheme.  The former chief accounting officer, Gilbert Lopez, and former controller, Mark Kuhrt, each received sentences of 20 years in prison.  A jury convicted them on numerous fraud counts last November.

NYTimes, Ex-Stanford Executives Get 20 Years Over Roles in $7 Billion Fraud

Senate Banking Committee Schedules Hearing on Wall St. Reform

The Senate Committee on Banking, Housing and Urban Affairs will hold a hearing on Feb. 14, 2013 on Wall Street Reform: Oversight of Financial Stability and Consumer and Investor Protections.  Here is the list of witnesses:

•Honorable Mary J. Miller
Under Secretary for Domestic Finance
U. S. Department of the Treasury
•The Honorable Daniel K. Tarullo
Governor
Board of Governors of the Federal Reserve System
•The Honorable Martin J. Gruenberg
Acting Chairman
Federal Deposit Insurance Corporation
•The Honorable Thomas J. Curry
Comptroller of the Currency
Office of the Comptroller of the Currency
•The Honorable Richard Cordray
Director
Consumer Financial Protection Bureau
•The Honorable Elisse B. Walter
Chairman
U.S. Securities and Exchange Commission
•Honorable Gary Gensler
Chairman
U.S. Commodity Futures Trading Commission

 

POGO Reports on SEC's Revolving Door

The Project on Government Oversight (POGO) is a nonpartisan independent watchdog that investigates waste, fraud and abuse throughout the federal government, according to its website.  It recently released its second study on the "revolving door" at the SEC, Dangerous Liaisons: Revolving Door at SEC Creates Risk of Regulatory Capture.  Whether or not you agree with the premise of the report, it is worth reading.  In addition, POGO performed a public service by obtaining from the SEC, through FOIA requests, disclosure statements filed by former SEC employees from 2001 through 2010, which are searchable online through its SEC Revolving Door Database.

The Report also contains a number of sensible recommendations, including

• let the public see where federal employees go after they leave the government, and disclose their ethics agreements
• extend the cooling off periods for employees who enter and leave the agency
• give the public more information about agency actions
• give the SEC the resources it needs
• other players should do their part.

Einhorn Raises Issue of Interpeting SEC's Unbundling Rule

As Securities Law Prof Blog readers probably know, David Einhorn through his hedge fund, Greenlight Capital, is a significant SH in Apple.  Einhorn is dissatisfied because he says that Apple has $137 Billion in cash ($145 per share) on its balance sheet and has “an obligation to examine all options to create and unlock additional value” for its SHs. Einhorn advocates that Apple unlock shareholder value by distributing to existing SHs a perpetual,  high-yield preferred stock that would enable SHs to own and trade separately the preferred shares and the existing common shares.

Apple's annual SH meeting is scheduled for Feb. 27.  On the agenda is a management proposal  to amend the certificate of incorporation in several ways (Proposal 2), including eliminating the power of the BOD to issue preferred shares without SH approval.  Specifically,

the amendment of the Company’s Restated Articles of Incorporation would (i) eliminate certain language relating to the term of office of directors in order to facilitate the adoption of majority voting for the election of directors, (ii) eliminate “blank check” preferred stock, (iii) establish a par value for the Company’s common stock of $0.00001 per share and (iv) make other conforming changes.

Greenlight opposes this amendment because it would “hinder [Apple’s] ability to unlock value for shareholders.” It recently sent a letter to SHs, urging them to vote against Proposal 2 because it is “value destructive” and “impedes the boards’ flexibility.”  CALPERS is also soliciting Apple SHs, urging them to support Apple management on Proposal 2 as enhancing SH rights. In a Feb. 7 statement, Apple stated that the company is actively discussing other ways about returning additional cash to SHs and that it will thoroughly evaluate the Greenlight proposal.  Regarding Proposal 2, Apple stated that:

As a part of our efforts to further enhance corporate governance and serve our shareholders’ best interests, Proposal #2 in our proxy includes some recommended changes to our articles of incorporation. These changes were recommended independently of Greenlight’s proposal and would not preclude Apple from adopting their concept. Contrary to Greenlight’s statements, adoption of Proposal #2 would not prevent the issuance of preferred stock. Currently, Apple’s articles of incorporation provide for the issuance of “blank check” preferred stock by the Board of Directors without shareholder approval. If Proposal #2 is adopted, our shareholders would have the right to approve the issuance of preferred stock. As such, Proposal #2 has the support of many of our shareholders.

 Greenlight has also filed suit in S.D.N.Y. asserting that Proposal 2 violates the SEC’s proxy rules because it contains three amendments to the Certificate of Incorporation, contrary to SEC rules that do not permit the bundling of separate matters presented for SH vote (Rule 14a-4(a)(3), Rule 14a-4(b)(1)).  It seeks a preliminary injunction against the shareholder vote.  The Court has scheduled a Feb. 22 oral argument on the application for a preliminary injunction.

 

 

FINRA Gives Up Advocating for SRO Responsibilities over Investment Advisers

I missed the story when it appeared, but I ran into Reuters' Suzanne Barlyn at Brooklyn Law School's Conference on the Importance of Compliance today, and she filled me in on the news that FINRA CEO Rick Ketchum has backed away from advocating that FINRA take on SRO responsibilities for investment advisers.  In an interview Ketchum said there was "no sign it can convince lawmakers in Washington to support a change in the way the advisers are regulated anytime soon."  He warns that investors continue to be at risk because the SEC does not have the resources to examine investment advisers on a regular basis. 

So what's the solution?  My understanding is that investment advisers sensibly would prefer one regulator over two and thus resist the idea of any SRO.  Will the SEC be given the resources to expand its examination program over investment advisers?

Reuters, Exclusive: Watchdog backs off over financial adviser regulation

Oral Argument in SEC v. Citigroup

William Alper, a Manhattan attorney, attended the oral argument today in SEC v. Citigroup at the request of the Securities Law Prof Blog and filed the following report.  He cautions that it is difficult to convey accurately the Q&A, but I think you'll agree that he has done a darn good job in capturing the essence.  He notes that although the oral argument was scheduled for only 29 minutes, it went on much longer than that.  The judges asked many questions and were obviously engaged.

Securities and Exchange Commission v Citigroup Global Markets Inc.
Oral Argument
February 8, 2013
United States Court of Appeals
For the Second Circuit

Judges: Rosemary S. Pooler, Raymond J. Lohier, Jr., Susan L. Carney

 The courtroom was so overcrowded that additional seating was set up in the ante room where more than 50 people watched on closed circuit TV.  SEC v Citigroup was first on the calendar and once the argument was concluded nearly everyone inside or outside the courtroom left.

SEC’s Argument

Counsel for SEC began by arguing that the District Court (Judge Rakoff) had adopted an inappropriate “bright line” rule.  Question was asked whether the District Court had said held the parties had provided insufficient information to warrant approval of the settlement/injunction but that the SEC contended the information provided was sufficient.  Counsel answered that the information provided was sufficient.  Asked by a judge what information was available to Judge Rakoff, SEC counsel referred to the Complaint, the settlement agreement negotiated by counsel at arms’ length, that it contained no ambiguity and that it did not require excess resources to enforce.

Asked by a judge whether the allegations in the Complaint were sufficient to support approval of the settlement, SEC counsel argued that they were.  He was then asked whether more information had been available to the Court which approved settlement in the Bank of America case, counsel agreed, but noted that Bank of America had agreed to submission of a statement of facts without admitting to any of them and had given the District Court additional evidence.

One of the judges noted that Judge Rakoff had not been satisfied with the answers supplied by the parties to his 9 questions.  SEC counsel agreed, but noted that many of Judge Rakoff’s questions were policy questions and that Judge Rakoff had complained, in refusing to approve the settlement, that he’d been provided no facts established by trial or by admission.

A judge asked whether Judge Rakoff should not have asked for more facts and SEC counsel said that under the law, it wouldn’t have been necessary for approval of the settlement.

A judge asked whether the District Court was entitled in deciding whether to approve the settlement to look at the complaint in Stoker.  SEC counsel replied that it was beyond the legitimate scope of the District Court’s review of the settlement.  That SEC refused to bring additional charges in light of Stoker was permissible, because SEC, as a government agency, has discretion and the District Court is not entitle to go beyond that.  The District Court’s power to review the settlement is limited to the injunctive relief, e.g., to determine whether there were ambiguous terms in the settlement.

Q: How could the District Court assess whether third parties would be harmed by the settlement with only the Complaint to go on? Could it ask 3d parties to submit facts?

A: That could happen in, e.g., a Title VII case, where the potential for harm to 3d parties is much more apparent, but not here.

Q: Why was an injunction necessary at all, in light of the fact the SEC almost never takes action to enforce them?

A: The possibility of enforcement proceedings is “useful” and has collateral effect as, for example, in SEC v. Cioffi, (EDNY(?)).

Citigroup’s Argument

Judge Rakoff asked for admissions from Citigroup that could be used for collateral estoppel purposes.

Q: What if the district court asked for facts “short of admissions”?

A: The District Court had ample “evidence” from the complaint, the SEC’s 28 page response to the District Court’s 9 questions and Citi’s 20 page response to them.  All of the questions were fully answered. WARNING: Corporations won’t settle if findings that could be used for collateral estoppel purposes were made or required.  2d Circuit precedent states that the District Court shouldn’t second guess the agency and defendant.

Q: Didn’t the District Court say it could not exercise its judgment and couldn’t make a judgment?

A: District Court said that either trial or admissions [to establish facts] were required.

Q: What if the District Court required something more than it was given, but short of admissions, should the Court of Appeals remand?

A: Many more words with colorful analogies but, “No.”

Q: Didn’t Harvy Pitt say the SEC could meet the District Court’s requirements?

A: The law doesn’t require admissions by settling party to settle or for District Court to approve settlement.

Q: The “admissions” argument is a “red herring” because the District Court didn’t and couldn’t demand them.

Pro Bono Counsel's Argument

Basic disagreement among the parties is what the District Court actually required of the parties: Appellants argue he required admissions or a trial to establish facts.  That’s just not so.

Q: District Court’s Order, p. 4, states that the court hadn’t been given proven or admitted facts.  Doesn’t that require admissions or trial to establish facts?

A: District Court didn’t require an admission of liability, but rather facts that could be the basis for proof of liability.  The “proof” could be documents, deposition testimony.

Q: So the Court’s ruling requires proof from the parties?

A: None was required, but there’s no rule that the District Court can’t ask, and Citi did provide evidence in support of it’s application to the Court for a stay, stating that courts can require evidentiary submissions. The District Court also had admissions from the 2 criminal cases.

Q: Did the acquittal in Stoker support the settlement in this case?

A: Yes, it would have, but it occurred after the District Court had already made its decision in this case.  It might be sufficient now [on remand].

Q: You agree that the District Court can’t require an admission of liability?

A: Yes.

Q: Would it be inappropriate to ask for facts necessary to establish liability?

A: It isn’t necessary to determine liability and the District Court’s questions and the answers did not.

Q: Did the Bank of America settlement establish facts estopping B of A?

A: No.

Q: But Bank of America settlement led to the filing of many lawsuits based on the facts of that case?

A: Yes, but without collateral estoppel/factual findings that could be used in subsequent cases.

Q: Why is an Article III judge entitled to determine what’s necessary in the public interest instead of the relevant agency?

Rule 23, and the fact that the settlement incorporated an injunction subject to judicial enforcement.

Q: SEC acknowledged a gap between total damage caused by the alleged acts and the amount Citigroup agreed to pay.

A: This case is different from Stoker: No criminal charges, not allegations of Citi’s scienter.

Q: Why isn’t it the SEC’s responsibility to determine the strength of its own cases, as other agencies and prosecutors do?

A: The SEC can, it is entitled to deference, but the District Court is not required to approve automatically what the SEC has agreed to.  It has its own standards to apply and uphold.

Q: SEC/Citi argue that many facts were given to the court.

A: No evidence, e.g., deposition testimony, was submitted.

Q: It isn’t sufficient for the agency to state important facts, the District Court may require sworn testimony, affidavits?

A: The submissions were “lawyer talk”, not “proof” or “evidence”.

Q: In light of the results in Stoker, does the District Court now have sufficient information?

A: Yes.

Counsel (Wing): The statement at the end of the District Court’s opinion was a “rhetorical flourish”.

Q: After Stoker, what is there left for the District Court to do on remand?

A: Stoker resolves Judge Rakoff’s questions and shows why the District Court was properly concerned.

Q: It showed the weakness of the SEC’s case?

A: Yes, but now the District Court has that information to us in doing its job.

SEC’s Rebuttal

Rule 23 is very different from this case because District Courts have a fiduciary responsibility to protect others, not, as here, where there’s an agency entitled to deference.

Q: What relief should we give, reverse and approve the settlement?

A: Yes.

Q: In light of Stoker, should we direct approval of the settlement on remand or just give the District Court the opportunity to take Stoker into account?

A: Yes, and perhaps give the parties a chance to back out of the settlement.

Citi’s Rebuttal

Q: Can’t we remand with an opportunity for the parties to appeal immediately if they wish?

A: Stoker is not a case to which Citi was a party – it can’t be the basis for fact finding in this case.

DECISION RESERVED

DOJ Sues S&P Alleging Fraudulent Credit Ratings

As was predicted yesterday, the U.S. Department of Justice filed a complaint against Standard & Poor's Financial Services and its parent company McGraw-Hill Companies, alleging civil fraud in connection with S&P credit ratings issued from 2004-2007 for residential mortgaged backed securities (RMBS) and collateralized debt obligations (CDOs).  The suit is brought under the Financial Institutions Reform, Recovery, and Enforcement Act of 1989 (FIRREA) and seeks recovery of civil money penalties for mail and wire fraud affecting federally insured financial institutions and financial institution fraud.  The complaint alleges that S&P falsely represented that its credit ratings of RMBS and CDO tranches were "objective, independent, uninfluenced by any conflicts of interest that might comprominse S&P's analytic judgment, and reflected S&P's true current opinion regarding the credit risks the rated RMBS and CDO tranches posed to investors."  The government seeks an unspecified amount of damages, which, according to the Wall St. Journal, could be as high as $5 billion.  WSJ, U.S. May Seek $5 Billion From S&P .

Government Plans to Sue S&P Alleging Fraudulent Ratings

The financial press is reporting that the U.S. Department of Justice, as well as state officials, plan to file civil fraud charges against Standard & Poor's Ratings Service, charging that the firm fraudulently rated mortgage bonds.  This would be the first government suit against a ratings firm related to the financial crisis.  The company issued a statement stating that any suit would be "entirely without factual or legal merit."

Settlement discussions reportedly broke down because the government was talking about a settlement figure around $1 billion, a somewhat higher figure that the parent company's profits for last year.

NYTimes, Dealbook, U.S. and States Prepare to Sue S.&P. Over Mortgage Ratings

WSJ, U.S. and States Prepare to Sue S.&P. Over Mortgage Ratings

Ex-Peregrine CEO Sentenced to 50 Years for Stealing Customers' Money

Russell Wasendorf Sr., the disgraced CEO of collapsed commodities firm Peregrine Financial Group, was sentenced to 50 years in prison for embezzling more than $215 million from his customers.  Wasendorf attempted suicide and left a note confessing his crime last summer.  The judge ignored requests for leniency and followed the government's recommendation.

NYTimes Dealbook, Ex-Peregrine Chief Sentenced to 50 Years in Prison