Category: Securities Law

Preparing to Testify in Response to an SEC Subpoena

When investigating companies, brokerage firms, investment advisors, and other entities and individuals, the U.S. Securities and Exchange Commission (SEC) relies heavily on its subpoena power. Once the SEC launches a formal investigation, it can issue administrative subpoenas to the company executives, brokers, and others. These subpoenas may be a subpoena duces tecum which compels the person to whom it is addressed to produce documents in his possession or control, or a subpoena ad testificandum which compels the person to whom it is addressed to appear at a specific time and place and testify under oath or affirmation. Crucially, while these subpoenas do not require judicial approval, they are subject to judicial enforcement.

With this in mind, receiving an SEC subpoena is not a matter to be taken lightly. Individuals who have been subpoenaed to testify must thoroughly prepare their testimony, and they need to make sure they know what to expect when the day arrives.

Testifying before the SEC is fraught with potential risks. It is imperative that subpoena recipients devote the necessary time to their preparations, and that they work with their counsel to proactively identify and address all potential areas of concern.

Understanding Why You Have Received an SEC Subpoena

When preparing to testify before the SEC, a key first step is to understand why you have been subpoenaed. Broadly speaking, the SEC focuses its enforcement efforts on two areas: (i) protecting U.S. investors, and (ii) preserving the integrity of U.S. capital markets. As a result, most SEC investigations target allegations of fraud, misrepresentation, conspiracy, and other offenses in one (or both) of these areas.

The SEC’s subpoena should provide at least some insight into the focus and scope of the SEC investigation. However, gathering the information you need to make informed decisions may require examination of other sources as well. For example, it will be helpful if you can identify anyone else who has received a subpoena or Wells Notice related to the investigation, and it may be prudent to conduct an internal compliance audit focused on uncovering any issues that could come to light.

Questions You Should Be Prepared to Answer During Your SEC Testimony

When preparing SEC testimony, it is important to keep in mind that you could easily be fielding questions for six hours or longer. While this can seem overwhelming, SEC subpoena recipients can generally expect to be asked questions in seven main categories. These main categories are:

  • Preliminary Matters
  • Background and Personal Information
  • Your Role Within Your Company or Firm
  • The Scope of Your Duties
  • Investors
  • Due Diligence
  • Clarifying and Closing the Record

1. Questions Regarding Preliminary Matters

SEC subpoena recipients can initially expect a series of questions that are designed to provide the SEC with insight into the steps they took to prepare their testimony. While these questions are largely procedural, some can present traps for the unwary. At the beginning of the session, you should be prepared to succinctly and confidently answer questions such as:

  • Did you get the opportunity to review the Formal Order associated with this matter?
  • Do you have any questions regarding the Formal Order?
  • Did you complete the Background Questionnaire by yourself?
  • Are the contents within the Background Questionnaire truthful and accurate?
  • Is there any information you wish to add to the Background Questionnaire?
  • Do you understand the rules and procedures of the SEC testimony process?
  • Do you have any questions on the rules and procedures of the SEC testimony process?

2. Questions Regarding Background and Personal Information

After dispatching these preliminary matters, the focus will shift to the SEC subpoena recipient’s background and personal information. Keep in mind that the SEC likely has much (if not all) of this information already—so if you omit information or provide misleading answers, this will not go unnoticed. During this phase of your testimony, you can expect to be asked questions such as:

  • What is your educational background?
  • Do you hold any professional or financial licenses?
  • Have you ever worked for a financial firm or investment advisory firm?
  • When did you first meet the other individual(s) involved in this matter?
  • Who introduced you?
  • What was the purpose of your first meeting (e.g., social meeting or business planning)?
  • Do your families know each other?
  • Where are you employed now?

3. Questions Regarding Your Role Within Your Company or Firm

If the SEC is investigating your company or firm (perhaps in addition to investigating you personally), you can expect several questions regarding your role within the organization. Depending on your position, the SEC’s investigators may ask you questions regarding the company or firm itself. Some examples of the questions you should be prepared to answer (as applicable) include:

  • When did you start working at the company?
  • What is your position at the company?
  • Can you describe the company’s corporate structure?
  • What are your title and position at the company?
  • Have your title and position changed over time?
  • What are the duties at the company?
  • Have your duties changed over time?
  • How is the company funded?
  • What is your salary at the company?
  • Who makes the majority of the decisions for the company?
  • Does the company sell securities?
  • Does the company pay dividends?
  • Does the company have voting rights?

4. Questions Regarding the Scope of Your Duties

After gaining an understanding of your role within your company or firm, the questioning will likely shift toward examining the scope of your duties in greater detail. In most cases, this is where the questions asked will begin to focus more on the substance of the SEC’s investigation. During this phase of your testimony, potential questions may include:

  • Can you describe your access to investor funds, financial statements and records, and investor details?
  • Are you aware of or do you have access to the sources of the company´s income?
  • What are the sources of the company´s revenue and projected revenue?
  • Can you describe or do you have access to the sources of the company´s expenses?
  • Who is responsible for preparing the company´s financial statements?
  • Do you have any role in preparing or compiling the company´s financial statements?
  • Who is responsible for preparing the company´s projected financial statements, including projected capital contributions, projected expenses, and projected revenues?
  • Do you have any role in preparing or compiling the company´s projected financial statements?
  • Does the company have its financial statements audited on an annual basis?
  • Did you ever act as a point of contact or intermediary between the company and third parties, such as investors or banks?
  • Do you ever serve as a representative of the company?
  • Are you involved in any of the company’s promotional efforts to the public?
  • Do you know or do you have access to details of the company’s anticipated monetization plans?
  • Are you aware of any complaints against the company?

5. Questions Regarding Investors

Once the scope of your duties has been established, the SEC’s investigators may next focus on your company’s or firm’s communications and relationships with investors. Here too, the investigators’ questions are likely to be tailored to the specific allegations at issue—and you could get yourself into trouble if you aren’t careful. To the extent of your knowledge, you should be prepared to accurately answer questions such as:

  • Does the company have investors?
  • Who are the investors?
  • What types of customers and/or investors do the company target or appeal to?
  • Do you communicate with investors?
  • How did the company attract capital contributions for its formation, project funding, and subsequent business plans?
  • Does the company adopt targeted marketing strategies, or does the company engage in general advertising?
  • What is the average contribution of the company’s investors?
  • Did you create, or do you have access to, a cap table?
  • Did you assist in the preparation of a cap table?
  • Did the company issue stock certificates or provide any other proof of equity ownership to investors?
  • Did the company register any of its investments?
  • Did the company issue a private placement memorandum or file a Form D?
  • Do you know if any investors already knew the company´s directors and officers before investing?
  • Does the company solicit investors or advertise to the general public (e.g., retail investors)?
  • Are you aware of what the company does with investor funds?
  • Can you describe your role in preparing any promotional or marketing materials?
  • Has the company distributed any investor documents or marketing/solicitation materials to the public?
  • Does the company have any plan to show, or did it show, promotional documents to investors?
  • Does the company hold regular investor calls?

6. Questions Regarding Due Diligence

Due diligence is often a key topic of discussion. SEC investigators are well aware that many company executives, brokers, and others are not sufficiently familiar with their companies’ and firms’ due diligence obligations, and charges arising out of due diligence violations are common. With this in mind, you should be prepared to carefully navigate inquiries such as:

  • Does the company have any identity verification procedures in place?
  • What kinds of identity verification procedures does the company use for its investors?
  • Can you describe the company´s know-your-customer (“KYC”) policies?
  • Do you assist with verifying investors or capital contributions?
  • Does the company maintain a compliance program?

7. Questions to Clarify and Close the Record

Finally, at the end of the session, the SEC’s investigators will ask if you want to clarify or supplement any of the answers you have provided. It is important not to let your guard down at this stage. While your testimony is nearly over, you need to remain cognizant of the risk of providing unnecessary information (or omitting information) and exposing yourself to further scrutiny or prosecution. With this in mind, it is best to consult with your counsel before answering questions such as:

  • Is there anything you wish to clarify from today´s testimony?
  • Is there anything you wish to add to your testimony before we close and go off the record?

Practicing your answers to these questions (among others) in a mock interview with your legal counsel or SEC defense attorney will help ensure that you are prepared for the SEC as possible.

Article By Dr. Nick Oberheiden of Oberheiden P.C.

For more SEC and securities legal news, click here to visit the National Law Review.

Oberheiden P.C. © 2022

SEC Awards Whistleblower Whose Tip Led to Opening of Investigation

On May 19, the U.S. Securities and Exchange Commission (SEC) issued a whistleblower award to an individual who voluntarily provided the agency with original information that led to a successful enforcement action.

Through the SEC Whistleblower Program, qualified whistleblowers are entitled to an award of 10-30% of the sanctions collected by the government in the enforcement action connected to their disclosure.

The SEC awarded the whistleblower approximately $16,000.

According to the award order, the whistleblower “helped alert Commission staff to the ongoing fraud and his/her tip was a principal motivating factor in the decision to open the investigation.”

In determining the exact percentage of an award, the SEC weighs a number of factors including the significance of the whistleblower’s information, the law enforcement interest in the case, the degree of further assistance provided by the whistleblower, the whistleblower’s culpability in the underlying violation, and the timelines of the disclosure.

According to the award order, the SEC considered that the awarded whistleblower “provided continuing assistance by supplying critical documents and participating in at least one subsequent communication with Commission staff that advanced the investigation.”

The SEC notes that the whistleblower did not initially make their disclosure via a Form TCR. However, the whistleblower qualified for an award because they filed a Form TCR within 30 days of learning of the filing requirement.

Since issuing its first award in 2012, the SEC has awarded approximately $1.3 billion to over 270 individuals. In the 2021 fiscal year, the program set a number of records. The SEC issued a record $564 million in whistleblower awards to a record 108 individuals.

In addition to monetary awards, the SEC Whistleblower Program offers confidentiality protections to whistleblowers. Thus, the SEC does not disclose any identifying information about award recipients.

Individuals considering blowing the whistle to the SEC should first consult an experienced SEC whistleblower attorney to ensure they are fully protected and qualify for the largest possible award.

Article By Mary Jane Wilmoth of Kohn, Kohn & Colapinto. Geoff Schweller also contributed to this article.

For more white collar business crime legal news, click here to visit the National Law Review.

Copyright Kohn, Kohn & Colapinto, LLP 2022. All Rights Reserved.

SEC Targets Companies Conducting Cryptomining

The SEC recently doubled the size of its Crypto Assets and Cyber Unit.  Since its inception in 2017, the SEC’s Crypto Assets and Cyber Unit has launched more than 80 investigations resulting in over $2 billion in monetary penalties.  With more dedicated investigative attorneys, trial counsel, and fraud analysts, the SEC’s cryptocurrency-related investigations are expected to substantially rise in the months and years ahead.

The tip of the spear will include the areas that the SEC said would be its focus moving forward:

  • crypto asset offerings
  • crypto asset exchanges
  • crypto asset lending and staking products
  • decentralized finance (DeFi) platforms
  • non-fungible tokens (NFTs); and
  • stablecoins

View SEC press release here.

Given the heightened scrutiny, however, even companies outside of the traditional cryptocurrency industry may find themselves subject to enforcement actions and penalties.  For example, the SEC recently announced that it reached a $5.5 million settlement with technology company NVIDIA Corporation for the company’s alleged failure to disclose on its Form 10-Q for fiscal year 2018 that cryptomining was a significant element of its revenue growth. View release here.

NVIDIA is not a cryptocurrency-related company, but rather is a technology company that markets and sells accelerated computing technologies, including graphics processing units (GPUs) for PC gaming, the company’s largest specialized market.  The SEC alleged that, as interest in cryptocurrencies began to increase in 2017, NVIDIA customers increasingly began using gaming GPUs for cryptomining of Ether (ETH), which rose in price from under $10 to nearly $800 between 2017 and 2018.

In its Form 10-Q for fiscal year 2018, despite knowledge (discerned by the SEC from internal company documents and communications) of cryptomining as a significant driver of its GPU sales growth in its gaming division, the SEC alleged that NVIDIA failed to disclose that this growth was largely driven by demand for gaming GPUs to use in cryptomining.  The SEC further alleged that this failure to disclose misled investors about the growth of NVIDIA’s gaming business in violation of Section 17(a)(2) and (3) of the Securities Act of 1933 and the disclosure provisions of the Securities Exchange Act of 1934.

As the SEC steps up its cryptocurrency related investigation and enforcement actions, publicly traded companies must exercise increased diligence in disclosure of activities that touch cryptocurrency assets.   Even internal dialogue about revenues or other disclosable material that touches cryptocurrencies, as happened to NVIDIA, could subject companies to increased scrutiny and significant monetary penalties.

Copyright ©2022 Nelson Mullins Riley & Scarborough LLP
For more articles about cryptomining, visit the NLR Financial Institutions & Banking section.

SEC Issues Three Whistleblower Awards Totaling Over $1 Million

On April 18, the U.S. Securities and Exchange Commission (SEC) issued three separate whistleblower awards totaling over $1 million. Each of the awarded whistleblowers voluntarily provided the SEC with original information that contributed to the success of an enforcement action.

Through the SEC Whistleblower Program, qualified whistleblowers are entitled to awards of 10-30% of the funds collected by the SEC in the relevant enforcement action. The SEC has awarded over $1.2 billion to over 250 individual whistleblowers since issuing its first award in 2012.

One of the awards issued by the SEC on April 18 was a $700,000 award granted to joint whistleblowers. The whistleblowers provided the SEC with original information and the SEC subsequently passed this information along to another agency. The whistleblowers’ information led to the successful enforcement of actions by both the SEC and the other agency. Under the Dodd-Frank Act’s related action provisions, the whistleblowers were entitled to awards based on the sanctions collected in both actions.

According to the award order, in determining the exact percentage to award the whistleblowers, the SEC considered the following: “(i) Claimants’ information prompted Commission staff to begin an examination that led to the Covered Action, (ii) Claimants’ assistance helped focus the examination; (iii) some of the charges in the Commission’s Order were based, in part, on the information submitted by Claimants; and (iv) there was substantial law enforcement interest in the information provided, as it related to an ongoing fraud involving the misappropriation of investor funds.”

The second award from April 18 was for $450,000. The whistleblower in this case first reported the misconduct internally before providing information to the SEC. According to the award order, the whistleblower’s information “significantly contributed to an existing investigation” and “helped streamline the staff’s investigation and saved the staff time and resources.” The whistleblower also provided the SEC with additional assistance including identifying witnesses and specific events of interest.

The final award, a $45,000 award based on sanctions collected to date, was issued to a whistleblower whose information prompted the SEC to open an investigation. According to the award order, the whistleblower “participated in a voluntary interview with Commission staff” and “suffered hardships as a result of the underlying misconduct.”

On April 18, the SEC also issued a whistleblower award denial. The denial covers award claims submitted by two individuals for the same enforcement action which stemmed from an investigation based on a self-report by a company. The SEC found that the individuals did not contribute to the success of the enforcement action.

According to the denial, “[t]he staff responsible for the Covered Action credibly declared, under penalty of perjury, that it neither received nor used any of the information provided by either Claimant during the Investigation or in the Covered Action, nor did it have any communications with the Claimants. Moreover, the information the Claimants provided did not relate to the matters considered in the Investigation.”

Individuals considering blowing the whistle to the SEC should first consult an experienced SEC whistleblower attorney in order to ensure they are fully protected and qualify for the largest possible award.

Geoff Schweller also contributed to this article.

Copyright Kohn, Kohn & Colapinto, LLP 2022. All Rights Reserved.
For more articles about whistleblower awards, visit the NLR Financial, Securities & Banking section.

The Gensler SEC: What to Expect in 2022

Since Gary Gensler became chair of the U.S. Securities and Exchange Commission in April 2021, his agency has signaled an active agenda that many expect will be aggressively enforced. Cornerstone Research recently brought together distinguished experts with SEC experience to share what they expect the SEC will focus on in 2022. The expert forum, “The Gensler SEC: Policy, Progress, and Problems,” featured Joseph Grundfest, a former commissioner of the SEC and currently serving as the W. A. Franke Professor of Law and Business at Stanford Law School; and Mary Jo White, senior chair, litigation partner, and leader of Debevoise & Plimpton’s Strategic Crisis Response and Solutions Group who previously served as chair of the SEC and as U.S. Attorney for the Southern District of New York. Moderated by Jennifer Marietta-Westberg of Cornerstone Research, the forum was held before an audience of attorneys and economists and explored the major regulatory and enforcement themes expected to take center stage in the coming year.

ESG Disclosures and Materiality

In its Unified Regulatory Agenda first released in June of last year, the SEC indicated that it will propose disclosure requirements in the environmental, social, and governance (ESG) space, particularly on climate-related risks and human capital management. However, as documented by the numerous comments received as a result of the SEC’s March 15, 2021, request for input on climate change disclosures, there is substantial debate as to whether these disclosures must, or should, require disclosure only of material information. During the expert forum, Grundfest and White agreed that ESG disclosures should call for material information only. However, they have different predictions on whether ESG disclosures actually will be qualified by a materiality requirement.

White emphasized that materiality is a legal touchstone in securities laws. “If the SEC strays far from materiality, the risk is that a rule gets overturned,” she said. “Not every single rule needs to satisfy the materiality requirement, but it would be a mistake for the SEC not to explain what its basis for materiality is in this space.”

Grundfest added, “There is a spectrum of ESG issues, and while some are within the SEC’s traditional purview, others are new and further away from it. For example, to better ensure robust greenhouse emissions disclosure, the Environmental Protection Agency should be the one to require disclosure rules that would not be overturned.”

Gensler has indicated that investors want ESG disclosures in order to make investment and voting decisions. For instance, in his remarks before the Principles for Responsible Investment in July 2021, Gensler stated that “[i]nvestors are looking for consistent, comparable, and decision-useful disclosures so they can put their money in companies that fit their needs.” White predicts that some but not all ESG disclosure requirements in the proposed rules the SEC is working on will call for material information.

Grundfest, however, believes that the rules the SEC eventually adopts will require disclosure only of material information. “The SEC’s proposal on ESG disclosures will ask for everything, from the moon to the stars,” he said. “But public comments will sober the rules. The SEC staff will take into account the Supreme Court standard and the Chevron risk. It will settle on adopting materiality-based disclosure rules.”

There is also debate over the potential definition of materiality in the context of any proposed ESG disclosures. The panelists were asked whether the fact that large institutional investors assert various forms of ESG information are important to their investment decisions is a sufficient basis upon which to conclude that the information is material. Neither White nor Grundfest believes the Supreme Court as currently composed would accept this argument, but they differ on the reasons.

Grundfest believes the Supreme Court will stick with its approach of a hypothetical reasonable investor. “The fact that these institutional investors ask for this information doesn’t necessarily mean that it’s material,” he said. “If the SEC wants to have something done in this space, it has to work within the law.”

White said an important aspect of the rule will be the economic analysis, though she, too, does not think materiality can be “decided by an opinion poll among institutional investors.” For example, a shareholder proposal requesting certain information that has not received support does not necessarily make the information immaterial. “The Supreme Court will be tough on the survey approach,” she said.

Digital Assets and Crypto Exchanges

In several statements and testimonies, Gensler has declared the need for robust enforcement and better investor protection in the markets for digital currencies. He has publicly called the cryptocurrency space “a Wild West.” In addition to bringing enforcement actions against token issuers and other market participants on the theory that the tokens constitute securities, the SEC under his leadership has brought enforcement actions against at least one unregistered digital asset exchange on the theory that the exchange traded securities and should therefore register as securities exchange.

“The crypto space is the SEC’s most problematic area,” Grundfest said. “Franz Kafka’s most famous novel is The Trial. It’s about a person arrested and prosecuted for a crime that is never explained based on evidence that he never sees. Some recent SEC enforcement proceedings make me wonder whether Kafka is actually still alive and well, and working deep in the bowels of the SEC’s Enforcement Division.” In support of this literary reference, Professor Grundfest  noted that, in bringing enforcement actions against crypto exchanges alleging that they traded tokens that were unregistered securities, the SEC never specified which tokens traded on these exchanges were securities. “This is almost beyond regulation by enforcement. It’s regulation by FUD—fear, uncertainty, and doubt,” Grundfest said.

White predicted that, of the 311 active crypto exchanges listed by CoinMarketCap as of December 1, 2021, the SEC will bring cases against at least four in the coming year.

Gensler has publicly argued for bringing the cryptocurrency-related industry under his agency’s oversight. “We need additional congressional authorities to prevent transactions, products, and platforms from falling between regulatory cracks,” he said in August at the Aspen Security Forum. But neither White nor Grundfest believes the current Congress will enact legislation giving the SEC authority to regulate crypto transactions that do not meet the definition of an investment contract under the Howey test.

In November 2021, a federal jury in Audet v. Fraser at the District Court of Connecticut decided that certain cryptocurrency products that investors purchased were not securities under Howey. Neither Grundfest nor White believes this finding will cause the SEC to become more cautious about asserting that some forms of crypto are securities.

“One jury verdict is hardly a precedent,” White said. “The facts of the case didn’t have many of the nuances under Howey that other cases have. It will not deter the SEC.”

The panelists agreed that SEC enforcement activity will be aggressive in the crypto space. A report by Cornerstone Research, titled SEC Cryptocurrency Enforcement: 2021 Update, found that, under the new administration, the SEC has continued its role as one of the main regulators in the cryptocurrency space. In 2021, the SEC brought 20 enforcement actions against digital asset market participants, including first-of-their-kind actions against a crypto lending platform, an unregistered digital asset exchange, and a decentralized finance (DeFi) lender.

Proxy Voting

With the 2022 proxy season on the horizon, people will be watching the SEC closely, as Gensler’s Commission recently adopted new rules for universal proxy cards, and it has revisited amendments adopted under the former chair of the SEC, Jay Clayton.

Last November, the SEC adopted universal proxy rules that now allow shareholders to vote for their preferred mix of board candidates in contested elections, similar to voting in person.  These rules would put investors voting in person and by proxy on equal footing. “Universal proxy was proposed at the time when I was the chair of the SEC, and the logic for the rule is overpowering,” White said. “In adoption, some commissioners had reservations on the thresholds of voting power a dissident would be required to solicit, but voted in favor anyway based on its logic. It was a 4 to 1 vote.”

Grundfest and White expect the number of proxy contests that proceed to a vote will go up as a result. From 2019 to 2020, the incidence of proxy contests increased from 6 to 13. Looking ahead to the coming year, Grundfest predicts the rule change will increase the incidence of proxy contests by somewhere between 50% and 100%. White predicts a more modest increase of about 50%.

Regarding rules on proxy voting advice, the SEC issued Staff Legal Bulletin No. 14L (CF) last November to address Rule 14a-8(i)(7), which permits exclusion of a shareholder proposal that “deals with a matter relating to the company’s ordinary business operations.”

The bulletin puts forth a new Staff position that now denies no-action relief to registrants seeking to exclude shareholder proposals that transcend the company’s day-to-day business matters. “This exception is essential for preserving shareholders’ right to bring important issues before other shareholders by means of the company’s proxy statement, while also recognizing the board’s authority over most day-to-day business matters,” the bulletin said.

Both White and Grundfest believe a modest number of issuers will go to court in the 2022 proxy season seeking to exclude Rule 14a-8 shareholder proposals as “transcending” day-to-day operations. “I think companies will challenge shareholder proposals in court but not a lot,” White said. “It depends on the shareholder proposal.”

Grundfest believes any such cases would be driven as much by CEOs as by any other factor. “Companies may challenge a shareholder proposal in court if they have a CEO who is offended by a certain proposal or for First Amendment reasons,” he said. Grundfest cited a hypothetical example of a software company in Texas with a shareholder proposal on gun rights or abortion rights, which have nothing to do with the cybersecurity software the company produces. “It would be hard to force a company to put forth a politically charged proposal that is not related to that company’s business,” he said. “If it’s a First Amendment right, the company will go to court.”

Article By Jennifer Marietta-Westberg and Simona Mola of Cornerstone Research

For more SEC and securities legal news, click here to visit the National Law Review.

Copyright ©2022 Cornerstone Research

SEC Issues Two Whistleblower Awards for Independent Analysis

On February 18, the U.S. Securities and Exchange Commission (SEC) announced two whistleblower awards issued to individuals who provided independent analysis to the SEC which contributed to a successful enforcement action. One whistleblower received an award of $375,000 while the other received $75,000.

According to the award order, the whistleblowers “each voluntarily provided original information to the Commission that was a principal motivating factor in Enforcement staff’s decision to open an investigation.”

Through the SEC Whistleblower Program, qualified whistleblowers, individuals who voluntarily provide original information which leads to a successful enforcement action, are entitled to a monetary award of 10-30% of funds recovered by the government.

A 2020 amendment to the whistleblower program rules established a presumption of a statutory maximum award of 30% in cases where the maximum award would be less than $5 million and where there are no negative factors present. The SEC notes that this presumption did not apply to the two newly awarded whistleblowers. According to the SEC, the first whistleblower unreasonably delayed in reporting their disclosure and the second whistleblower only provided limited assistance.

In the award order, the SEC justifies its decision to grant the first whistleblower a larger award than the second. According to the SEC, the first whistleblower’s disclosure included high quality about an issue which “was the basis for the bulk of the sanctions in the Covered Action” whereas the second whistleblower’s disclosure did not touch on this pivotal issue. Furthermore, the first whistleblower provided significant ongoing assistance to the SEC staff while the second whistleblower did not.

Since issuing its first award in 2012, the SEC has awarded approximately $1.2 billion to 247 individuals. Before blowing the whistle to the SEC, individuals should first consult an experienced SEC whistleblower attorney to ensure they are fully protected under the law and qualify for the largest award possible.

Article By Mary Jane Wilmoth of Kohn, Kohn & Colapinto. Geoff Schweller also contributed to this article.

For more whistleblower and white collar crime legal news, click here to visit the National Law Review.

Copyright Kohn, Kohn & Colapinto, LLP 2022. All Rights Reserved.

Greenwashing and the SEC: the 2022 ESG Target

A recent wave of greenwashing lawsuits against the cosmetics industry drew the attention of many in the corporate, financial and insurance sectors. Attacks on corporate marketing and language used to allegedly deceive consumers will take on a much bigger life in 2022, not only due to our prediction that such lawsuits will increase, but also from Securities & Exchange Commission (SEC) investigations and penalties related to greenwashing. 2022 is sure to see an intense uptick in activity focused on greenwashing and the SEC is going to be the agency to lead that charge. Companies of all types that are advertising, marketing, drafting ESG statements, or disclosing information as required to the SEC must pay extremely close attention to the language used in all of these types of documents, or else run the risk of SEC scrutiny.

SEC and ESG

In March 2021, the SEC formed the Climate and Environmental, Social and Governance Task Force (ESG Task Force) within its Division of Enforcement. Hand in hand with the legal world’s attention on greenwashing in 2021, the SEC’s ESG Task Force was created for the sole purpose of investigating ESG-related violations. The SEC’s actions were well-timed, as 2021 saw an enormous increase in investor demand for ESG-related and ESG-driven portfolios. There is considerable market demand for ESG portfolios, and whether this demand is driven by institute influencers or simple environmental and social consciousness among consumers is of little importance to the SEC – it simply wants to ensure that ESG activity is being done properly, transparently and accurately.

Greenwashing and the SEC

The SEC has stated that in 2022, it will be taking direct aim at greenwashing issues on many different levels in the investment world. As corporations and investment funds alike increasingly put forth ESG-friendly statements pertaining to their actions or portfolio content, the law has thus far failed to keep pace with the increasing ESG statement activity. It is into this gap that the SEC sees itself fitting and attempting to ensure that the public is not subject to greenwashing. In order to tackle this objective, expect the SEC to focus on the wording used to describe investments or portfolios, what issuers say in filings, and the statements made by investment houses and advisors related to ESG.

From this stem several topics that the SEC’s ESG Task Force will scrutinize, such as: whether “ESG investments” are truly comprised of companies that have accurate and forthright ESG plans; the level of due diligence conducted by investment houses in determining whether an investment or portfolio is “ESG friendly”; how investment world internal statements differ from external public-facing statements related to the level of ESG considerations taken into account in an investment or portfolio; selling “ESG friendly” investments with no set method for ensuring that the investment continues to uphold those principles; and many others.

2022, the SEC, and ESG

Given the SEC’s specific targeting of ESG-related issues beginning in 2021, we predict that 2022 will see a great degree of SEC enforcement action seeking to curb over zealous marketing language or statements that it sees as greenwashing. Whether these efforts will intertwine with the potential for increased Department of Justice criminal investigation and prosecution of egregious violators over greenwashing remains to be seen, but it is nevertheless something that issuers and investment firms alike must closely consider.

While there are numerous avenues to examine to ensure that ESG principles are being upheld and accurately conveyed to the public, the underlying compliance program for minimizing greenwashing allegation risks is absolutely critical for all players putting forth ESG-related statements. These compliance checks should not merely be one-time pre-issuance programs; rather, they should be ongoing and constant to ensure that with  ever-evolving corporate practices, a focused interest by the SEC on ESG, and increasing attention by the legal world on greenwashing claims, all statement put forth are truly “ESG friendly” and not misleading in any way.

Article By John Gardella of CMBG3 Law

For more environmental legal news, click here to visit the National Law Review.

©2022 CMBG3 Law, LLC. All rights reserved.

SEC Rejects Listing of Two Bitcoin ETFs

The SEC rejected two proposals to list and trade shares in two Bitcoin exchange-traded funds (“ETFs”).

The SEC rejected a proposal from NYSE Arca, Inc. (“Arca”) to list and trade shares of the Valkyrie Bitcoin Fund. The SEC also rejected a proposal from CBOE BZX Exchange, Inc. (“BZX”) to list and trade shares of the Kryptoin Bitcoin ETF Trust.

The SEC assessed whether the exchanges (i) had a comprehensive surveillance-sharing agreement with a significant, regulated market, and (ii) could effectively prevent fraudulent and manipulative activity. In the rejected proposals, the SEC noted its concerns over the abilities of the exchanges to adequately meet the requirements under SEA Section 6(b)(5) (“Determination by Commission Requisite to Registration of Applicant as a National Securities Exchange”) in protecting investors and the public interest by preventing fraudulent and manipulative practices.

The SEC rejected Arca’s argument that (i) liquidity, (ii) price arbitrage, and (iii) frameworks to value assets would be sufficient to mitigate potential manipulation.

Similarly, the SEC rejected BZX’s proposal, concluding “that BZX has not established that it has a comprehensive surveillance-sharing agreement with a regulated market of significant size related to bitcoin,” and “that BZX has not established that other means to prevent fraudulent and manipulative acts and practices are sufficient to justify dispensing with the requisite surveillance-sharing agreement.”

As a result, the SEC found that both exchanges had failed to prove that they could meet their burdens under SEA Section 6(b)(5).

© Copyright 2021 Cadwalader, Wickersham & Taft LLP
For more articles on cryptocurrency exchanges, visit the NLR Financial Securities & Banking.

SEC Report Details Record-Shattering Year for Whistleblower Program

On November 15, the U.S. Securities and Exchange Commission (SEC) Whistleblower Program released its Annual Report to Congress for the 2021 fiscal year. The report details a record-shattering fiscal year for the agency’s highly successful whistleblower program. During the 2021 fiscal year, the SEC Whistleblower Program received a record 12,200 whistleblower tips and issued a record $564 million in whistleblower awards to a record 108 individuals. Over the course of the year, the whistleblower program issued more awards than in all previous years combined.

“The SEC’s Dodd-Frank Act whistleblower program has revolutionized the detection and enforcement of securities law violations,” said whistleblower attorney Stephen M. Kohn. “Congress needs to pay attention to this highly effective anti-corruption program and enact similar laws to fight money laundering committed by the Big Banks, antitrust violations committed by Big Tech, and the widespread consumer frauds often impacting low income and middle class families who are taken advantage of by illegal lending practices, redlining, and credit card frauds.”

“The report documents that whistleblowing works, and works remarkably well, both in the United States and worldwide,” continued Kohn. “The successful efforts of the SEC to use whistleblower-information to police Wall Street frauds is a milestone in the fight against corruption. Every American benefits from this program.”

In the report, Acting Chief of the Office of the Whistleblower Emily Pasquinelli states “[t]he success of the Commission’s whistleblower program in landmark FY 2021 demonstrates that it is a vital component of the Commission’s enforcement efforts. We hope the awards made this year continue to encourage whistleblowers to report specific, timely, and credible information to the Commission, which will enhance the agency’s ability to detect wrongdoing and protect investors and the marketplace.”

Read the SEC Whistleblower Program’s full report.

Geoff Schweller also contributed to this article.

Copyright Kohn, Kohn & Colapinto, LLP 2021. All Rights Reserved.
For more on SEC Whistleblower Rewards, visit the NLR White Collar Crime & Consumer Rights section.

Don’t Use “Build Back Better” to Sabotage the False Claims Act

Congress is on the verge of setting a dangerous precedent.  As part of the Build Back Better Act, it has added two provisions equivalent to a “get out of jail free card” for Big Banks that violate federal law when they hand out billions in federal mortgage-related benefits.   The two provisions create exemptions to False Claims Act liability by creating blanket immunity from liability when banks fail to exercise due diligence, violate FHA housing regulations, or even directly violate federal laws such as the Truth in Lending Act.

It is obvious why banks want to have their federally sponsored mortgage practices immunized from exposure to the False Claims Act (“FCA”).  The FCA works remarkably well and is widely recognized as “the most powerful tool the American people have to protect the government from fraud.”   The law has directly recovered over $64.450 billion in sanctions from fraudsters since Congress modernized it in 1986.  During the debates on the massive trillion-dollar infrastructure laws enacted or debated this year, corporate lobbyists have been extremely active in successfully preventing Congress from adding any new anti-fraud measures to protect taxpayers from fraud.  As part of these efforts, they targeted the False Claims Act as enemy #1 and already have blocked one key amendment needed to close some weaknesses in that law.

With the Build Back Better Act, these corporate lobbyists have taken their opposition to effective anti-fraud laws to a higher level.  Instead of trying to repeal the FCA, they are simply exempting Big Banks from liability under that law in two new programs.  It is obvious why the Big Banks want the exemption from FCA liability.  As a result of illegal or irresponsible lending and foreclosure practices, such as those that fueled the 2008 financial collapse, banks have had to pay billions in sanctions to the United States.

Two words explain why the FCA is “the most powerful tool” protecting taxpayers from fraud:  Whistleblowers and sanctions.  If you accept federal taxpayer monies, you are required to spend that money according to your contractual agreement or the law.  The FCA’s first secret weapon is whistleblowers.  The law encourages whistleblowers, known as qui tam “relators,” to report violations of the FCA.  Whistleblowers disclosures trigger the overwhelming majority of FCA cases, and the law incentivizes employees to risk their careers to serve the public interest. The second secret weapon is how you prove liability.  Second, when an institution accepts federal monies (such as banks that operate various federally sponsored loan programs), liability can attach if the institution acts in “deliberate ignorance of the truth” when spending federal dollars.  Similarly, if payments are made with “reckless disregard of the truth,” liability can attach.  In other words, corporations (including banks) that accept federal money must ensure that these monies are spent as required by law, regulation, or contract.  Safeguards must be in place to prevent fraud.  If a bank does not have adequate compliance programs to protect against fraud, it cannot plead ignorance when the law is broken and taxpayers are ripped off.

These two key elements of the False Claims Act are precisely what the banking lobby is attempting to undermine through the Build Back Better Act.  The tactics employed by the Big Banks are somewhat devious.  They are doing an end-run around the False Claims Act by exempting themselves from having to engage in any due diligence when spending billions in federal dollars.  The banks are seeking to add language to the Build Back Better Act that will immunize themselves from liability under the False Claims Act when they make payments in “reckless disregard” to the legality of those payments.  The immunities they are seeking legalize “deliberate ignorance” in the use of taxpayer money, in complete defiance of the False Claims Act. Thus, whistleblowers who report these frauds will be stripped of protections they have under the False Claims Act, and the federal government will have no effective way to recover damages from these frauds.

What language in the Build Back Better Act creates an exemption to False Claims Act liability?

Two highly technical provisions are deeply buried within the 2135 pages of the Build Back Better Act’s legislative text. The provisions are sections 40201 and 40202 of the Build Back Better Act.  These two sections establish helpful programs that will provide needed financial support to first-generation homebuyers.  Section 40201(d)(5) would provide $10 billion in down payment assistance. Section 40202(f) would give an interest rate reduction on new FHA 20-year mortgage products to first-time homeowners with a potential value of $60 billion.  But the banking lobby has corrupted these otherwise well-meaning programs. The exemptions obtained by the banks are incubators for massive fraud.  It permits the Big Banks to escape any liability when they abuse the generosity of taxpayers and dole out billions to unqualified individuals.

How do the exemptions work?  To qualify for these taxpayer-financed benefits, an applicant simply has to “attest” that they are first-time/first-generation homebuyers.  That would be the end of the inquiry a bank would need to approve making a payment from the billions allocated in these two programs. Anyone could simply stroll into a bank and “attest” to being such a first-time homebuyer and would thereafter qualify for the federal benefits.  The banks would not be required to do any diligence of their own to confirm the borrower’s eligibility.  Willful ignorance would be legalized.  Reckless disregard in the handling of taxpayer monies would be permitted under this law.  Safeguards, such as requiring banks to adhere to the Truth in Lending Act, which requires verification of a borrower’s statements, would not apply.

Under Sections 40201(d)(5) and 40202(f), banks will not be held liable once they are lied to, even if the bank has reason to know that the borrower is not eligible for the federal payout.  Banks can spend taxpayer money even if the information on an applicant’s loan application directly contradicts the borrower’s attestation that they are a first-time homeowner.  Given the lack of any compliance standards, the temptation to engage in fraud in these programs will be overwhelming.

Permitting banks to escape liability under the False Claims Act opens the door to paying billions of dollars in benefits to unqualified persons.  Such payments rip off the taxpayers and severely hurt all honest first-generation homebuyers denied benefits.  For every fraudster who benefits from this program, an honest homebuyer will be left in the cold due to the reckless disregard of the banks.

Congress should never use a back-door procedure to undermine the False Claim Act, as it sets a dangerous precedent.  It is a devious way to undermine America’s “most effective” anti-fraud law.  Instead of undermining the False Claims Act by granting immunities to Big Banks, Congress should be strengthening anti-fraud laws to protect the taxpayers and ensure that the trillions of dollars spent on COVID-19 relief programs and infrastructure improvement are lawfully spent in the public interest.

Copyright Kohn, Kohn & Colapinto, LLP 2021. All Rights Reserved.
For more articles about banking and finance, visit the NLR Financial, Securities & Banking section.