Quarterly Securities Enforcement Briefing
Led by former federal prosecutors Jeff Coopersmith and Mark Bartlett, DWT has deep experience in representing companies and individuals in connection with enforcement actions and investigations involving the Department of Justice, the Securities and Exchange Commission, and the self-regulatory organizations. As part of this practice, we are constantly monitoring developments in this area. As a service to clients and friends of the firm, we will carefully select the developments during each quarter that we believe are most important for our clients and friends to know about. From time to time, we may send out special bulletins before the end of each quarter if events warrant. We hope that you find this briefing informative, and we invite you to contact us with any questions or comments.
- DOJ and SEC Continue Aggressive FCPA Enforcement Trend; New DOJ Guidance on FCPA Expected Shortly
- 2nd Circuit Issues Must-Read Opinion Setting Out Standards for Insider Trading Liability
- SEC Awards First Dodd-Frank Whistleblower Payment
- Is There a Duty to Disclose an SEC Wells Notice?
- Court Says SEC Remedies Against D&Os Are Penalties and Time-Barred
- 2nd Circuit Eases SEC’s Burden in Aiding and Abetting Fraud Cases
DOJ and SEC Continue Aggressive FCPA Enforcement Trend; New DOJ Guidance on FCPA Expected Shortly
By Jeffrey B. Coopersmith
The Department of Justice and the Securities and Exchange Commission continued the trend of very aggressive FCPA enforcement in the third quarter. On Aug. 7, 2012, the DOJ announced that it had entered into a Deferred Prosecution Agreement with a subsidiary of Pfizer, Inc., that includes payment by the company of a $15 million fine. On the same day, the SEC announced settlements with Pfizer, Inc. and Wyeth LLC, a company that Pfizer acquired in 2009, that require Pfizer and Wyeth to pay a combined total of over $45 million in disgorgement and prejudgment interest. The conduct underlying the DOJ and SEC settlements involved alleged bribes paid by Pfizer employees and agents to officials in Bulgaria, China, Croatia, Czech Republic, Italy, Kazakhstan, Russia, and Serbia to obtain regulatory and formulary approvals, sales, and increased prescriptions for the company’s pharmaceutical products. There were also allegations that employees and agents attempted to conceal these activities by falsely describing the payments in books and records as legitimate expenses for promotional activities, marketing, training, travel and entertainment, clinical trials, freight, conferences, and advertising.
Pfizer’s settlement with the Department of Justice is particularly noteworthy because of the insight it provides about the DOJ’s expectations in the context of mergers and acquisitions. Consistent with other FCPA settlements reached by the DOJ in 2012, the Deferred Prosecution Agreement in the Pfizer matter requires beefed up risk-based due diligence on potential M&A targets, prompt FCPA compliance audits after the deals, and immediate extension of FCPA polices to the acquired or merged companies.
Another notable matter is the SEC’s Aug. 16, 2012 settlement with Oracle Corporation. The underlying conduct involved the alleged “parking” of excess funds generated by inflated prices charged to customers by distributors so that those funds could be used to make marketing and development payments to non-existent third-party vendors. This settlement, which includes payment by Oracle of a $2 million penalty, is significant because the SEC did not allege that the company made any actual improper payments, but rather that an Indian subsidiary of Oracle “created the risk that the funds could be used for illicit purposes such as bribery or embezzlement.” The basis of the settlement was thus Oracle’s failure to keep accurate book and records rather than the FCPA’s bribery proscriptions. It is likely that the SEC will continue to aggressively utilize this tool even in cases where actual bribery cannot be shown.
Further guidance from the DOJ on its FCPA enforcement policies is expected very shortly. On Nov. 8, 2011, Lanny Breuer, Chief of DOJ’s Criminal Division, announced that the DOJ would release “detailed new guidance” in 2012. He warned, however, that the DOJ has “no intention whatsoever of supporting reforms whose aim is to weaken the FCPA and make it a less effective tool for fighting foreign bribery.” The DOJ is expected to release its new guidance by the end of 2012. We are monitoring this and will provide an update when the new guidance is available.
In other news, on Oct. 9, 2012, the Serious Fraud Office in the United Kingdom came out with its own guidance concerning enforcement of the U.K. Bribery Act. This guidance clarified the SFO’s enforcement policies with respect to the provision of hospitality and promotional expenditures, facilitation payments, and self-reporting. In the case of self-reporting by companies, the SFO stated “for a self-report to be taken into consideration as a public interest factor tending against prosecution, it must form part of a ‘genuinely proactive approach adopted by the corporate management team when the offending is brought to their notice.’ Self-reporting is no guarantee that a prosecution will not follow. Each case will turn on its own facts.”
The U.S. Court of Appeals for the 2nd Circuit, in SEC v. Obus, recently revived an insider trading enforcement action by the Securities and Exchange Commission against a hedge-fund manager and other individuals. In doing so, the 2nd Circuit, starting on page 15 of its opinion, set forth a succinct summary of the law on insider trading, which provides a useful source for understanding the basics of tipper and tippee liability under section 10(b) of the Securities and Exchange Act of 1934.
As the Obus court explains, insider trading claims rest on one of two basic theories. Under the classical theory, a corporate insider is prohibited from trading shares of that corporation based on material non-public information in violation of the duty of trust and confidence insiders owe to shareholders. A second theory, grounded in misappropriation, targets persons who are not corporate insiders but to whom material non-public information has been entrusted in confidence and who breach a fiduciary duty to the source of the information to gain personal profit in the securities market. A person who has a fiduciary duty of trust and confidence to shareholders (classical theory) or to a source of confidential information (misappropriation theory) and is in receipt of material non-public information has a duty to abstain from trading or to disclose the information publicly. The bar against insider trading is not confined only to insiders or misappropriators who trade for their own account; it also reaches situations where the insider or misappropriator tips another person who then trades on that information—i.e., tipper and tippee liability. Before liability may attach, however, the tipper or tippee must know or be reckless in not knowing that the information that is the subject of the tip is non-public and is material for securities trading purposes.
SEC Awards First Dodd-Frank Whistleblower Payment
By Jean M. Flannery
In August, the SEC made its first payout to a whistleblower under the Dodd-Frank Wall Street Reform and Consumer Protection Act. The sum was small—$50,000, or 30 percent of the amount collected so far. 30 percent is the maximum allowable under the whistleblower program, and 10 percent is the minimum. Future awards could far exceed $50,000; Dodd-Frank entitles whistleblowers to between 10 and 30 percent of collected sanctions for securities laws violations over $1 million.
According to a press release by the SEC, the whistleblower turned over documents that helped prevent a multi-million dollar fraud. The release is silent on the whistleblower’s identity or nature of the claim. The release does say, however, that the SEC has collected about $150,000 of the ordered $1 million in sanctions. The court may issue judgments against other defendants in the case that would increase the whistleblower payment.
The SEC set up the whistleblower program under Dodd-Frank about a year before it made the first payout. Since then, according to the chief of the SEC’s Whistleblower Office, “about eight tips a day are flowing into the SEC.”
Is There a Duty to Disclose an SEC Wells Notice?
By Jeffrey B. Coopersmith
Over the years, public companies have often wrestled with the question of whether receipt of a “Wells Notice” should be disclosed pursuant to Regulation S-K Item 103 or otherwise. Regulation S-K Item 103 (17 C.F.R. § 229.103) provides that a company is required to “describe briefly any material pending legal proceedings . . . known to be contemplated by governmental authorities.” A recent federal case from New York answered this question in favor of not requiring disclosure. Under section 2.4 of the SEC’s current Enforcement Manual and long-standing SEC practice, the SEC’s enforcement staff may, but is not required to, send a letter to a company or individual providing notice of a decision by the staff to recommend to the Commission that an enforcement case be filed. This is known as a “Wells Notice” in SEC practice, named after John A. Wells, the chairman of a 1972 committee that recommended institution of the notice letter.
On June 12, 2012, in the first case to expressly rule on this question, Judge Paul Crotty of the Southern District of New York found that there is no requirement to disclose receipt of a Wells Notice. The case, Richman v. Goldman Sachs Group, Inc., involved a claim by class action plaintiffs that Goldman Sachs committed securities fraud by, among other things, failing to disclose receipt of a Wells Notice issued by the SEC staff in connection with an investigation about a synthetic collateralized debt obligation (CDO) transaction. Analyzing Regulation S-K Item 103, FINRA and NASD rules, as well as general securities fraud principles, Judge Crotty found that Goldman Sachs had no duty to disclose the Wells Notice. It should be noted that Goldman Sachs had disclosed generally that it had received requests from various government agencies and others for information related to CDOs and other subprime mortgage products—although Judge Crotty referred to this, his opinion does not appear to have turned on this point.
Court Says SEC Remedies Against D&Os Are Penalties and Time-Barred
By Jean M. Flannery
A federal appeals court recently expanded the protection that the statute of limitations affords defendants in securities enforcement cases brought by the SEC. The applicable statute of limitations, 28 U.S.C. § 2462, states that actions by the SEC for the “enforcement of any civil fine, penalty, or forfeiture, pecuniary or otherwise” must be commenced within five years of when “the claim first accrued.” The SEC has historically interpreted this statute to apply only to what it viewed as legal remedies, such as civil fines, but not to what it viewed as equitable remedies, such as injunctions, D&O bars, and disgorgement. The new case, SEC v. Bartek, for the first time includes permanent injunctions and director and officer (D&O) bars among the remedies covered by the five-year statute of limitations. The court also ruled that there is no “discovery rule” that impacts when claims first accrue in the context of SEC actions.
In 2008, the SEC brought an action in a Texas district court against former Microtune officers. The SEC accused the defendants of accounting fraud by backdating stock options, and asked for permanent injunctions, civil penalties, and D&O bars. The defendants moved for summary judgment, citing 28 U.S.C. § 2462. The district court agreed with the defendants and granted summary judgment.
The 5th Circuit affirmed the district court in an August 2012 unpublished decision. The court held that permanent injunctions and D&O bars are subject to the five-year statute of limitations because they are “penalties” rather than equitable remedies. The court reasoned that: “[t]he SEC’s sought-after remedies would have a stigmatizing effect and long-lasting repercussions. Neither remedy addresses past harm allegedly caused by the Defendants. Nor does either remedy address the prevention of future harm in light of the minimal likelihood of similar conduct in the future.”
The case may put pressure on the SEC to conduct investigations more efficiently, and will restrain the agency’s ability to use two weapons in its remedy arsenal.
Although the views of a single judge from the Southern District of New York will not be binding elsewhere, the case arose from a very high-profile SEC investigation, is well-reasoned, and presents a useful data point in connection with disclosure decisions about Wells Notices and similar matters.
2nd Circuit Eases SEC’s Burden in Aiding and Abetting Fraud Cases
By John A. Goldmark
The U.S. Court of Appeals for the 2nd Circuit has lowered the bar for the Securities and Exchange Commission to successfully bring enforcement actions against “aiders and abettors” of securities fraud. In SEC v. Apuzzo, the 2nd Circuit ruled that the SEC “is not required to plead or prove that an aider and abettor proximately caused the primary securities law violation” to establish the substantial assistance element for an aiding and abetting claim. This new and more relaxed standard could lead to increased SEC enforcement actions against individuals, particularly in cases involving misconduct related to financial statements and accounting.
In Apuzzo, the SEC charged Joseph Apuzzo, former CFO of a global manufacturing company, with aiding and abetting securities law violations through his role in a fraudulent accounting scheme. The SEC alleged Appuzo aided and abetted the scheme by signing leaseback agreements that he knew were designed to allow a third-party rental company to improperly recognize revenue to meet earnings forecasts. The lower court, applying the standard for private plaintiff actions, found the SEC failed to adequately allege Appuzo “proximately caused” the harm arising from the third-party’s fraudulent scheme and dismissed the case.
The 2nd Circuit, however, disagreed with the district court. The 2nd Circuit ruled that the SEC need not establish proximate cause in civil enforcement actions; rather the proper test in such cases is whether the aider and abettor “in some sort associated himself with the venture, that he participated in it as in something that he wished to bring about, and that he sought by his action to make it succeed.” The 2nd Circuit reasoned the SEC should not be held to the higher “proximate cause” standard because, unlike private plaintiffs, the SEC files suits mainly to deter unlawful conduct. Further, applying the higher standard to the SEC would let too many aiders and abettors off the hook, since “many if not most aiders and abettors would escape all liability if such a proximate cause requirement were imposed, since, almost by definition, the activities of an aider and abettor are rarely the direct cause of the injury brought about by the fraud, however much they contribute to the success of the scheme.”
This decision clarifies and meaningfully reduces the SEC’s burden to allege and ultimately prove aiding and abetting fraud claims in securities enforcement actions. The impact of this decision is particularly broad because many publicly traded companies have operations in New York, making them subject to the jurisdiction of New York courts where Apuzzo is now the law.