Tag: SEC

Golden Leash Rule, Say-on-Pay, Form 10-K Summaries: Proxy Season Guide to 2017

SEC proxy seasonAs another year comes to a close, it is time for public companies to become acquainted with the securities law and business developments of the past year to position themselves for success in 2017. Below is a summary of current and anticipated changes that may impact reporting requirements and disclosure regulations for the upcoming 2017 proxy season, along with a review of the 2016 proxy season.

NEW FOR 2017

Frequency Votes for Say-on-Pay

After Jan. 21, 2011, public companies were required to hold an advisory vote regarding the frequency of which say-on-pay votes would occur, which could not be in excess of every six years. Therefore in 2017, many companies will need to include an agenda item for the frequency vote at their annual meeting. Following the vote, companies will need to include the results of the frequency for which say-on-pay votes will be held in their Form 8-K under Item 5.07(b).

SEC Approves NASDAQ’s “Golden Leash Rule”

In July 2016, the SEC approved NASDAQ’s “Golden Leash Rule.” This rule requires listed companies to disclose material terms of any agreement between a director or director nominee and any entity or person other than the company, regarding any amount of compensation or payment related to the director’s service on the board or the director nominee’s candidacy. The “Golden Leash Rule” requires annual disclosure in the companies’ proxy or on its website. The “Golden Leash Rule” became effective Aug. 1, 2016.

Form 10-K Summaries

In July 2016, the SEC issued an interim final amendment to the Fixing America’s Surface Transportation Act, creating Item 16 on Form 10-K allowing companies the option to include a summary of the information included in the Form 10-K. While no previous rule prohibited summaries, most issuers simply included a table of contents with hyperlinks to items in their reports. This rule provides issuers some flexibility when preparing the Form 10-K.

CEO Pay Ratio Disclosure Rule

For the first fiscal year beginning on or after Jan. 1, 2017, companies will need to comply with the SEC’s long-anticipated final rule implementing Section 953(b) of the Dodd-Frank Act, which requires all public companies to disclose the pay ratio between their CEO’s annual total compensation and the annual total compensation of the companies’ “median” employee. However, companies will not be required to include pay ratio disclosures in their proxy statements until 2018. With the exception of smaller reporting companies, emerging growth companies, foreign private issuers, and registered investment companies, all reporting companies will have to disclose their pay ratio. The pay ratio disclosure must be included in any filing that requires executive compensation disclosure under Item 402 of Regulation S-K, which includes registration statements, proxy and information statements, and annual reports on Form 10-K. Even though uncertainty may loom around the viability of Dodd-Frank with President-elect Donald Trump’s transition underway, companies should continue to prepare pay ratio disclosures in anticipation for the 2018 proxy season. The Final Pay Ratio Disclosure Rule is available here.

PROXY ADVISORY FIRM UPDATES

Glass Lewis Updates

Glass, Lewis & Co. (Glass Lewis) recently published its 2017 Proxy Season Guidelines. The guidelines include a number of changes, a summary of which is outlined below.

Director Overboarding. Beginning February 2017, Glass Lewis will implement its policy regarding director board commitments. Glass Lewis will issue negative recommendations for directors that serve on more than five public company boards and company executives that serve on a total of two public company boards, including his or her own.

Governance for Newly Public Companies. For newly public companies, Glass Lewis will recommend against directors and members of governance committees who adopt provisions causing shareholders’ rights to become “severely restricted indefinitely.” Provisions such as anti-takeover mechanisms, including poison pills or classified boards, along with exclusive forum and fee-shifting provisions will all be considered for such recommendations.

Board Self-Assessment. Glass Lewis has updated its views regarding board evaluations to account for director skills and how those skills align with company strategy, as opposed to merely relying on tenure and age. Glass Lewis has further taken the stance that shareholders are better equipped to measure the board’s composition and approach to corporate governance.

Gender Pay Disclosure. Glass Lewis issued a new policy for reviewing companies’ gender pay equity, on a case-by-case basis. Upon review, Glass Lewis will generally recommend proposals requesting greater disclosure where inattention and inadequate policies expose the company to risk.

In its update, Glass Lewis also noted its support for proxy access and the management of environmental and social risks.

A copy of the full Glass Lewis Proxy Season Guidelines is available here.

ISS Updates

Institutional Shareholder Services (ISS) also updated its proxy voting policy guidelines for 2017, which will affect shareholder meetings taking place after Feb. 1, 2017. The guidelines set forth a number of updates:

Director Overboarding. Similarly to Glass Lewis, ISS will also implement its policy regarding director overboarding, establishing the threshold for overboarding to five public boards for directors who are not company executives. The policy for overboarding of company executives threshold will remain at three total boards, including his or her own.

Undue Restrictions. A new ISS policy recognizes shareholders’ ability to amend bylaws as a fundamental right. Under the policy, ISS will vote against or withhold recommendation for members of the governance committee if the company’s charter imposes “undue restrictions” on shareholders’ rights to amend the bylaws. ISS also recognized complete prohibitions on binding shareholder proposals and share ownership requirements beyond the requirements of Rule 14a-8 as being undue restrictions on shareholders’ rights. ISS will generally recommend against governance committee members whose company has any of these provisions in its charter as well.

Unilateral Governance Changes. ISS updated its policy for governance of newly public companies to include consideration for any reasonable sunset provision when issuing recommendations against directors who have adopted charter or bylaw amendments that ISS views as materially adverse to shareholder rights or that implement a multi-class capital structure affording unequal voting rights prior to or in connection with an IPO.

Shareholder Ratification of Non-Employee Director Pay Program. As a result of recent highly publicized lawsuits involving excessive non-employee director compensation, ISS will consider qualitative factors such as the presence of problematic pay practices relating to director compensation and the quality of disclosures surrounding director compensation, when evaluating whether to recommend ratification programs regarding non-employee director compensation.

A copy of the full ISS 2017 Proxy Voting Guidelines is available here.

2016 IN REVIEW

During the 2016 proxy season, proxy access remained the predominant topic for the second consecutive year. In fact, shareholders submitted over 200 proxy access resolutions during the 2016 proxy season. The SEC’s 2010 proxy access rule, Rule 14a-11, provided that a shareholder was eligible to nominate proxy access candidates if the shareholder held at least 3 percent of the voting power for at least three years and was not prohibited from proposing a candidate under law or the company’s governing documents. Although this rule was vacated by the U.S. Court of Appeals for the D.C. Circuit in 2011 for being arbitrary, many shareholder proposals are still based on both Rule 14a-11 and the SEC’s amendments to Rule 14a-8. At the end of June 2016, over 250 companies, with 190 S&P 500 firms, established proxy access rights through voluntary adoptions and negotiated withdrawals. As a result, proxy access proposals continue to drive change and mold standard market terms.

As companies grew in 2016, so did the need to properly assess, implement and maintain internal controls over financial reporting (ICFR) pursuant to Rule 13a-15. ICFR is the process by which public companies provide reasonable assurance to the public that its financial statements are prepared in accordance with GAAP and are ultimately reliable. To comply, the SEC requires an annual management report of the company’s ICFR effectiveness, including disclosure of any material weakness that may create a possibility for the company to be unable to promptly detect or prevent a material misstatement on its financial statements, in Form 10-K. Companies should implement accounting controls designed to mitigate financial reporting risk and regularly evaluate any deficiencies. This is particularly important in light of revenue reporting rules issued by the Financial Accounting Standards Board becoming effective for public companies in 2018 and as new accounting standards are issued.

The comment periods have expired for other proposed changes to incentive-based compensation arrangements, the securities transaction settlement cycle, disclosure of payments by resource extraction issuers, pay-for-performance, hedging disclosure, and clawbacks. These changes have not been finalized. At this time, there is no anticipated date for implementation of these policies, so there will be no effect on 2017 filings.

OTHER SECURITIES LAW DEVELOPMENTS

Exemptions to Facilitate Intrastate and Regional Securities Sales and Offerings

In October 2016, the SEC adopted its final rule modernizing the existing intrastate offering framework by implementing amendments to Rule 147 under the Securities Act of 1933. The SEC’s amended Rule 147 provides a safe harbor under Section 3(a)(11) for issuers organized and principally doing business within a single state to offer and make sales of securities to resident purchasers of the same state. The amendments allow companies to raise money from investors within their state without simultaneously registering the offer and sale at the federal level.

The SEC’s new Rule 147A will expand the safe harbor to issuers that maintain a principal place of business in a different state from where it is incorporated and permit issuers to offer and make sales to residents in the state where it operates. Under Rule 147A, issuers will also be able to make offers across state lines, but sales remain limited to residents of the state.

The final rule also repealed Rule 505 and expanded Rule 504 of Regulation D, by increasing the aggregate amount of securities that may be offered and sold in any 12-month period from $1 million to $5 million. Additionally, the final rule disqualifies certain bad actors from participation in offerings under Rule 504. Through these amendments, the SEC sought to facilitate issuers’ capital raising efforts and provide additional investor protections.

Rule 147 and new Rule 147A will be effective on April 20, 2017. The amendments to Rule 504 will be effective on January 20, 2017. The removal of Rule 505 will be effective on May 22, 2017. All other amendments will be effective on May 22, 2017. The final rules are available here.

Supreme Court Decides First Insider Trading Case in Decades: Salman v. United States

In December 2016, after 20 years without a decision regarding the scope of insider trading, the Supreme Court held that even when no financial or tangible benefit is received, insider trading may arise when a tipper makes a “gift” of confidential information to a friend or relative, in Salman v. United States, No. 15-628 (U.S. Dec. 6, 2016). Although the tipper received no physical benefit from providing the information to the tippee, the Supreme Court found that the personal benefit received from bestowing a “gift” of confidential information to a family member or friend was enough for conviction, thus paving a smoother path for prosecutors seeking conviction.

The Supreme Court relied on the “personal benefit test” established in the seminal 1983 case Dirks v. SEC, 463 U.S. 646 (1983) but declined to clarify the scope of the “personal benefit test.” Additionally, the Supreme Court expressly rejected the Second Circuit’s decision in United States v. Newman, 773 F.3d 438 (2d Cir. 2014), which held that the government must prove that a tippee knew an insider received a personal benefit in exchange for disclosing confidential information, and any benefit received must be sufficiently consequential. While the Supreme Court only narrowly expanded the “personal benefit test” in Salman, it rejected the government’s argument that a gift to “anyone” satisfies the “personal benefit test” potentially providing for a distinction between disclosures to friends and family and those to market professionals. The Salman opinion can be found here.

Mutual Funds/Investment Companies: Rule 22e-4 and Swing Pricing

In October 2016, the SEC adopted its final Rule 22e-4. This new rule requires mutual funds and registered open-end management investment companies, including open-end exchange-traded funds (ETFs) to create a liquidity risk management program, in order to reduce the risks associated with fund redemption obligations. The liquidity risk management program must include periodic review of a fund’s liquidity risk, classification of the liquidity of fund portfolio investments, determination of a highly liquid investment minimum, a limitation on illiquid investments, and board oversight. The rule also permits open-end funds, excluding ETFs and money market funds to use swing pricing, which allows funds to adjust their net asset value per share in order to pass on the costs associated with trading activity to purchasing and redeeming shareholders. The rule requires board approval and periodic review of the funds’ swing factor upper limit and swing threshold. Companies will need to comply with the new Rule 22e-4 beginning on or after Jan. 17, 2017 and access to swing pricing will become available Nov. 19, 2018. The final rule is available here.

Investment Company Reporting Modernization

In October 2016, the SEC adopted new forms and amendments to modernize the reporting and disclosure requirements for registered investment companies. Form N-PORT, a new monthly reporting form requires registered funds other than money market funds to provide portfolio-wide and position-level holdings data. Reporting requirements include data related to the pricing of portfolio securities, information regarding repurchase agreements, securities lending activities, counterparty exposure, terms of derivatives contracts, and portfolio level and position level risk measures, to the SEC on a monthly basis. Form N-CEN will require registered investment companies to annually report certain census-type information as well. Finally, the SEC is adopting amendments to Forms N-1A, N-3 and N-CSR to require certain disclosures regarding securities lending activities. Collectively, these amendments will enhance investors’ ability to use and analyze data to ultimately make more informed investment decisions. The rule becomes effective Jan. 17, 2017, and most funds will be required to begin filing new Forms N-PORT and N-CEN after June 1, 2018. The final rule is available here.

Universal Proxy

In October 2016, the SEC proposed changes to the proxy rules requiring the use of universal proxy cards during a contested election. During a proxy contest, the proposal would require proxy contestants to provide shareholders a proxy card with the names of management and dissident director nominees listed. Similar to voting in person, the proposal would give shareholders the ability to vote for their preferred combination of board candidates through proxy. The proposal aims to remedy shareholders’ current inability to combine nominees to create their own slate during a contested election. The comment period for the proposal ends Jan. 9, 2017.

ARTICLE BY Susan B. Zaunbrecher & Jacqueline I. Painter of Dinsmore & Shohl LLP
© 2016 Dinsmore & Shohl LLP. All rights reserved.

A New Regulatory Paradigm For The SEC Following the Election?

SEC sealMany are speculating on the future of federal securities regulation as a result of the election of Donald J. Trump and the concomitant Republican control of both houses of Congress. Broc Romanek, for example, asks whether Michael S. Piwowar will become the SEC’s next Chairman.  Broc notes that Commissioner Piwowar is an economist, not a lawyer.  Since the SEC is concerned with financial regulation, a background in economics should be a strong plus.

Since I’ve already seen signs of holiday decorating in the stores, I’ve drawn up my own short wish list for whomever takes the helm of the SEC.

The SEC should fundamentally change its approach to evaluating regulations. When considering the adoption of any new substantive regulation, the fundamental question must always be “Why is this regulation necessary?”  A regulation isn’t necessary simply because someone thinks it is a good idea or constitutes a perceived “best practice”.  A regulation is necessary only when it can be demonstrated that there is some market impediment that can only be removed by government intervention.  It seems that regulations are too often adopted in reverse.  It is tantamount to a doctor, knowing that a drug has proved beneficial in some cases, prescribes it to her patients without first making a diagnosis.  If a market impediment exists, then the regulatory effort should be directed at removing the impediment not imposing additional requirements.

The SEC should ask Congress to repeal Section 16(b) liability.  When Congress enacted Section 16 more than four score years ago, it was recognized that it was a “crude rule of thumb”.  Given the rapidity of modern trading, the arbitrary six month period seems positively quaint. The calculation of profits under the rule can be bizarre.  In some cases, persons are liable even when they recognized no overall economic profit.  Congress enacted the rule to deter insider trading, but many persons who are guilty of trading on the basis of material non-public information aren’t even subject to the rule.  In practice, the rule has become an economic boon to a few lawyers and a technical trap for many.  At eighty plus years, Section 16(b) has had a good run, but now is time for it to leave the stage.

The SEC should abandon and repudiate its attempts to co-opt attorneys. Attorneys are their clients’ advisers and advocates.  They are not gatekeepers as the SEC has on occasion supposed.  The SEC should amend its attorney conduct (Part 205) rules to eliminate the purported ability of lawyers to disclose client confidences to the SEC.  See Conflicting Currents: The Obligation to Maintain Inviolate Client Confidences and the New SEC Attorney Conduct Rules, 32 Pep. L. Rev. 89 (2004) and this post.  The SEC should also amend its whistleblower rules to eliminate the possibility of attorneys obtaining whistleblower awards.  See SEC Condemns Breach Of Client Confidences While Offering Possible Bounties For Breaches.

Allow companies to pick their reporting periods.  There has been much debate about whether publicly traded companies suffer from short-termism.  Although short-termism may have multiple causes, the SEC’s rigid requirement of quarterly financial information pressures companies to focus on short-term results.  Why not let companies pick their own reporting periods?  This will allow companies to telegraph to the market whether they are focused on short-term or long-term performance.  To those who say that this is a bad idea, I say why not let the market decide?  If investors think that semi-annual or annual reporting is inadequate, then companies making those choices will be undervalued and will incur higher costs of capital.  Some companies might even elect to report more frequently than every quarter (e.g., bi-monthly).  The beauty of this approach is that it is transparent and allows the market to achieve equilibrium at the optimal time for each issuer.

Allow companies to decide whether they will be subject to routine SEC review.  It is hard to assess the efficacy of SEC staff review of filings. I’m sure that the SEC believes that staff review improves disclosure and that may well be the case.  One way to test that position, is to allow companies to elect whether to have their filings be subject to SEC staff review.  These elections would be public.  Investors could then decide whether SEC review reduces risk through enhanced disclosure (because companies will do a better job because they know they are subject to review and/or because the staff’s comments result in improved disclosure).  The efficacy of review should be reflected in differences in the cost of capital.

Readers will note that repeal of the Dodd-Frank Act is not on my wish list.  That is the subject of this blog by Cydney Posner at Cooley LLP. As a final note, this is my personal wish list and it does not necessarily represent the wish list of my firm, partners, or any my firm’s clients.

ARTICLE BY Keith Paul Bishop of Allen Matkins Leck Gamble Mallory & Natsis LLP

© 2010-2016 Allen Matkins Leck Gamble Mallory & Natsis LLP

SEC Whistleblower Awards: Can You Hear Whistles Blow? Valued At More Than $100 Million, You Bet You Can!

Some very loud whistles have been blowing across corporate America since 2011 – whistles valued at $107 million, in fact. The United States Securities and Exchange Commission announced on August 30, 2016, that since its whistleblower program began in 2011, they have awarded more than $107 million total to 33 individuals who voluntarily provided the SEC with original and useful information that led to a successful enforcement action. Whistleblower awards can range from 10 percent to 30 percent of the money collected when the SEC’s monetary sanctions in a matter exceed $1 million.

The SEC encourages employees to report suspected wrongdoing, because they, according to Acting Chief Jane Norberg, “are in unique positions behind-the-scenes to unravel complex or deeply buried wrongdoing.” And, last year alone, employees responded by providing nearly 4,000 tips to the agency. With this kind of incentive from the SEC and other government agencies, as well as a growing number of successes in whistleblower lawsuits, it is more important than ever for companies to get advice on a regular basis. Moreover, companies must be strategic and proactive in their approach to implementing an effective whistleblower protection and anti-retaliation system.

Key elements of an effective whistleblower protection and anti-retaliation system include:

  1. Clear and visible leadership commitment and accountability. This is truly the most important piece of the puzzle. Without sincere support from the top, no internal whistleblower program can succeed.

  2. The creation of a true “speak-up” organizational culture focused on prevention, including encouraging employees to raise all suspicions and issues quickly and insuring the fair resolution of such issues.

  3. Independent, protected resolution systems for employees and third-parties who believe they are experiencing retaliation as a result of raising concerns.

  4. Specific training to educate all employees about their rights and available protections (including both internal and external programs).

  5. Specific training for managers who may receive complaints or information from employees, requiring the manager to be considerate of the employee making the report, to be diligent, and, most importantly, to act on the information with no corporate tolerance of the “just telling me as a friend, not as a manager” excuse.

  6. Internal monitoring and measurement of corporate compliance efforts and the effectiveness of the speak-up and non-retaliation culture, without contributing to the suppression of employee reporting.

  7. Independent auditing to determine if the whistleblower protection and anti-retaliation system is actually working.

Post written by Denise K. Drake of Polsinelli LLP.

SEC Releases Crowdfunding Rules for Securities Offerings

Investors will be able to purchase securities through Internet crowdfunding platforms under new final rules released by the Securities and Exchange Commission (SEC) in October. The final rules, known as “Regulation Crowdfunding,” originated in Title III of the Jumpstart Our Business Startups Act of 2012 (JOBS Act). The rules will take effect in May 2016.

Alongside Regulation Crowdfunding, the SEC also proposed amendments to Rules 147 and 504 under the Securities Act of 1933 (the Proposed Amendments). A brief review of Regulation Crowdfunding and the Proposed Amendments is provided below for companies or investors eager to discover new capital raising or investment opportunities and for broker-dealers interested in expanding into the crowdfund arena.

Key Points: What to Know About Regulation Crowdfunding

The Regulation Crowdfunding rules are extensive, but they can be more readily understood and categorized as: 1) operative provisions; 2) disclosure mandates; and 3) crowdfunding platforms.

Operative Provisions

Regulation Crowdfunding will: i) enable companies to raise up to $1 million, in the aggregate, over a 12-month period; ii) for individual investors whose annual income or net worth is less than $100,000, enable such investors to spend the greater of $2,000 or five percent of the lesser of their annual income or net worth on crowdfunding investments over a 12-month period; iii) for individual investors whose annual income or net worth equals or exceeds $100,000, enable such investors to spend ten percent of the lesser of their income or net worth on crowdfunding investments over a 12-month period. The goal is to allow more people to dabble in investments, and to level the playing field for investments by ensuring that even the wealthiest of individual investors cannot spend more than ten percent of their income or net worth on crowdfunding offerings in a given 12-month period. Also crucial to note are the following points:

  • Securities purchased in a crowdfunding transaction will be considered restricted securities and will be subject to resale restrictions for one year in most circumstances;

  • All of the new crowdfunding offerings will need to be completed with the assistance of a registered broker-dealer or done through a registered “funding portal,” to be discussed in greater depth below; and

  • Some companies are unable to use the exemption, including foreign companies, publicly-traded companies, and companies that are subject to disqualification under Regulation Crowdfunding.

Disclosure Mandates

Companies seeking to raise money through crowdfunding will have to meet specific disclosure requirements under Regulation Crowdfunding including:

  1. The price of the securities to be offered;

  2. How the price was determined;

  3. The target offering amount;

  4. The deadline to reach the target offering amount;

  5. The funding deadline;

  6. Whether the company intends to accept investments that will cause the target offering amount to be exceeded;

  7. A discussion of the company’s financial health;

  8. A discussion of the business and how proceeds from the offering will be used;

  9. Information about directors, officers, and owners of 20 percent or more of the companies;

  10. Certain related-party transactions; and

  11. Financial statements of the company that may or may not need to be audited, depending on a fairly complex set of circumstances.

Crowdfunding Platforms

Regulation Crowdfunding contemplates the creation of crowdfunding portals to facilitate Internet-based transactions that, in theory, reduce costs and boost efficiency. The “funding portals” will need to be registered with the SEC via a new form – Form Funding Portal – and such portals will need to be registered as members of a national securities association (i.e., FINRA). In short, the funding portals will be the intermediary platforms through which all crowdfunding will be conducted, and these portals will need to comply with the following requirements:

  1. Provide investors with informative materials explaining how to use the platform, what is being offered, and all relevant disclosures about the company, resale restrictions, investment limitations, and the like;

  2. Take measures to reduce fraud risks, including by verifying with the companies offering securities that such companies are in compliance with Regulation Crowdfunding and that the companies are maintaining up-to-date records of their security holders;

  3. Post and maintain mandatory disclosures for 21 days before any offerings are live (i.e., a waiting period of 3 weeks) and throughout the actual offering period;

  4. Make available forums or other communication venues for investors to discuss offerings on the platform;

  5. Explain how the intermediary is being compensated for hosting the transactions;

  6. Require investors to set up accounts officially before being allowed to buy securities;

  7. Have a reasonable basis to believe that investors are in compliance with the investment limitations (i.e., they will need to ensure investors are not exceeding their spending limits in a given 12-month period);

  8. Provide adequate notices and confirmations at each step of the investment process;

  9. Comply with maintenance and transmission of funds requirements; and

  10. Comply with any requirements dealing with completion, cancellation, and re-confirmation of offerings requirements.

Crowdfunding intermediaries will be prohibited from providing access to companies they believe pose fraud or other problems that could negatively impact investor protections; holding financial interests in companies offering securities on their platforms, unless such financial interests are being used as consideration to pay the intermediaries for their services (subject to certain conditions); and paying third parties to provide information that will personally identify any investors or potential investors who may be using or planning to use the platform. Specific to funding portals as intermediaries, Regulation Crowdfunding also prohibits such portals from: offering investment advice or making purchase recommendations; soliciting purchases, sales, or offers; soliciting purchases, sales, or offers via promoters or other persons for pay; and holding or handling investors’ funds or securities. Despite the numerous prohibitions, Regulation Crowdfunding is intended to make transactions smoother and provide a safe harbor (i.e., set of guidelines) for funding portals, such that, if the portals follow the guidelines precisely, they can be assured that they are in compliance with Regulation Crowdfunding.

Key Points: What to Know About the Proposed Amendments

In an effort to balance the need to help smaller companies raise capital with the need to protect investors from fraudulent and misleading securities sales, the SEC has proposed amending Rules 147 and 504 as follows:

  • Rule 147 – This rule currently allows a safe harbor for exemption from costly registration for offers and sales made entirely within one state. The amendments are intended to make it easier for companies to make intrastate offerings of their securities by: 1) eliminating restrictions on offers (i.e., general solicitation and advertising will be allowed), though sales would still need to be made only to residents of the issuer’s state or territory; and 2) expanding the meaning of “intrastate offering” and the issuer eligibility requirements. The amended Rule 147 would apply to offerings registered in-state or conducted under an exemption from state law registration that caps the amount of securities allowed to be sold by an issuer at $5 million over a given 12-month period, along with spending limits for investors.

  • Rule 504 – This rule currently provides a safe harbor exemption from registration for certain small offerings. The amendments would boost capital-raising by increasing the aggregate amount of securities allowed to be offered and sold under Rule 504 from $1 million to $5 million, during any 12-month period. The amendments would boost protection for investors by prohibiting a set of defined “bad actors” from participating in such offerings.

Conclusion: Timelines for Regulation Crowdfunding and the Proposed Amendments

The new Regulation Crowdfunding rules and forms will be effective 180 days after they get published in the Federal Register (i.e., in May 2016). The forms that will enable funding portals to get registered with the SEC will become effective on January 29, 2016, thereby allowing the funding portals to be active or ready for transactions months before any transactions under the new rules are allowed by law.

Regarding the Proposed Amendments to Rules 147 and 504, the SEC is welcoming public comments, and will continue to do so for a 60-day period, which will end approximately by the end of the year. Crowdfunding has been the subject of much discussion and debate as evidenced by the nearly three years it took the SEC to promulgate Regulation Crowdfunding. It is still too early to predict whether crowdfunding will emerge in 2016 as a successful alternate path for capital-raising for small companies. Indeed, only time will tell whether the SEC will manage to balance its primary goal of investor protection with the ambitious aim of offering a more grassroots-level option of raising money.

To review the text of Regulation Crowdfunding and the Proposed Amendments, see the following links from the SEC: http://www.sec.gov/rules/final/2015/33-9974.pdf and http://www.sec.gov/rules/proposed/2015/33-9973.pdf.

Article By Corporate Services at Dickinson Wright of Dickinson Wright PLLC

© Copyright 2015 Dickinson Wright PLLC

Failure to Investigate Could Mean “Game-Set-and-Match” for EB-5 Investors: SEC Case against Brother-in-Law of Tennis Star Andre Aggasi Shows Risk for Would-be Immigrant Investors

On August 25, 2015, the U.S. Securities and Exchange Commission (SEC) filed a civil fraud suit against Lobsang Dargey, a Bellevue, Washington-based real estate developer and alleged fraudster, who also happens to be a brother-in-law of tennis star Andre Agassi. Dargey had ventured into the EB-5 Program as a developer and regional center owner, securing designation by United States Citizenship and Immigration Services (USCIS) for two regional centers, Path America SnoCo and Path America KingCo. The complaint is relevant to both investors and regional centers in the EB-5 industry, as well as to lawyers advising issuers in EB-5 offerings.

SEC-logoGOLD

Dargey has now landed in hot water for engaging in fraud and deceit in the EB-5 offering process, as well as for using related Path America companies to siphon investor funds into his own pockets. The SEC has charged him for making false and misleading statements in EB-5 offering documents, alleging that since 2012 Dargey has exploited the EB-5 Program to defraud investors seeking investment returns and a lawful path to U.S. permanent residency. Among the allegations is misappropriation of $17.6 million in investor funds.

Summary of the SEC’s Complaint

The SEC alleges that Dargey, through his solely owned and controlled entity Path America, LLC, had diverted to himself and for his own personal benefit millions of dollars he had raised from Chinese nationals for EB-5 projects sponsored by Path America-owned regional centers. Path America had raised money for projects including the proposed Potala Farmers Market (a hotel, apartment and retail project in Everett, Washington), as well as the Potala Tower (a proposed 440 foot, 40-story hotel-and-apartment tower) in Seattle. Path America serves as the managing member of both USCIS designated regional centers and had unfettered control over the entire EB-5 investment process for the offerings.

In bringing the suit, the SEC also obtained a temporary asset freeze against Dargey and numerous related corporate defendants to prevent Dargey from pursuing his recently-announced plans to raise an additional $95 million from investors. According to the SEC, Dargey spent some of the siphoned funds on a $2.5 million home in Bellevue as well as at various gambling casinos. He also diverted EB-5 funds to projects that were unrelated to those disclosed in his offering documents to investors, meaning that the green card petitions pursued by EB-5 investors would be infirm.

A Path to America Fraught with Securities Fraud

The Path America case raises questions about investments buttressed by stories that seem to-good-to-be-true: Dargey left his Tibetan homeland and goat-herding profession in 1997 to pursue opportunities in the United States, as a house painter though he didn’t speak a word of English, and later rose to become a successful real estate developer. Dargey’s personal biography was almost certainly a lure to investors, and he conditioned the EB-5 market with his life story. In the media, Dargey touted his personal journey from Buddhism to capitalism, creating a background narrative for his real estate ventures and perceived success. Dargey’s story should caution investors to thoroughly examine the organizations backing the EB-5 projects in which they invest despite any personal affinity or connectivity with the background of a project promoter. Although the SEC has not directly asserted that this case involved affinity fraud, it is clear that Dargey targeted Chinese investors who may have felt an affinity with him. This is a common tactic employed by a schemer in affinity fraud.

If true, the allegations levied by the SEC make a strong case against Dargey for securities fraud, which is at the heart of the complaint. An element of any claim of securities fraud is the defendant’s state of mind, specifically, whether the defendant acted with “scienter” or “fraudulent intent.” Frequently, aggrieved investors in actions to recover their investment losses have tried to establish scienter by pointing to a defendant’s “motive and opportunity” to commit fraud. The Dargey case illustrates how control of numerous related entities involved in this EB-5 financing program may give a defendant ample “opportunity” to siphon off investor funds and commit fraud, while keeping investors in the dark about material changes to how he used investor funds. Nine different corporate entities were named as defendants in this case, and, according to the SEC’s Complaint, Dargey maintained control over all of them to such a degree that he was able to repeatedly transfer funds between the entities and into accounts that he controlled, eventually withdrawing large sums of cash which he used to gamble and purchase real estate. A quick records search on the State of Washington’s Secretary of State’s corporate records database reveals that Dargey (or a member of his executive team listed on his company website) is in fact the registered agent for each of these companies.

The Dargey case serves as a reminder to investors in EB-5 regional center projects (or any other investment vehicle) to be thorough and circumspect in evaluating the organizational structure of any enterprises set up to achieve the advertised goals, particularly where numerous inter-related projects are involved and particularly where the entire enterprise appears to be under the control of just one individual. Unlike Mr. Dargey’s rags-to-riches success story, some opportunities are just too good to be true.

Related Party Transactions Can Be Traps for Unwary EB-5 Regional Centers and Issuers

Regional centers and issuers of EB-5 investments should also consider carefully the lessons in Dargey’s case about potential SEC scrutiny of related party transactions.

USCIS designated regional centers that handle investor funds and that facilitate offerings also need to be cautious, even when they think they are doing everything properly. The SEC is showing an increased interest in the EB-5 Program, and this interest appears to be here to stay.

One hot topic is related party transactions that, when improperly concealed, keep investors in the dark about the economic relationships among multiple related entities in a deal. Disclosures about related party transactions should not be buried in a Private Placement Memo (PPM), but should be identifiable and written in clear language. If a regional center, developer and general partner are essentially one and the same party in your deal, your offering could be subject to a higher level of scrutiny later particularly with respect to whether all material disclosures were properly presented in offering documents. Related party transactions require careful and robust disclosures so that investors can evaluate the substance of potential conflicts. Such disclosures belong to the total mix of information that a reasonable investor would need to know in order to make an investment decision. The omission of such disclosures can lead to litigation later with the SEC and investors.

While transparency to investors is paramount, so too is fairness. If you are conducting an offering with related party transactions, ensure that you have a commercially reasonable basis for the economics of your deal. Also have objective controls on how investor funds are managed and spent. One practice tip is to engage an auditor that provides annual or even semi-annual or quarterly reports to investors. Even regional center owners or managers who don’t engage in criminal or egregious conduct can find the SEC knocking at the door and alleging fraud when material facts in a deal are not disclosed to investors, or when there are questions about how investor funds were handled.

Another strategic tip: hire qualified securities counsel to understand what you need to disclose in your offering documents when you have a related party transaction. What constitutes a material disclosure is complex. Suffice it to say that counsel needs to be engaged in all aspects of an offering’s preparation to guide an issuer on whether disclosures are sufficient when a deal goes to market. An omission could result in allegations or findings later that offering documents contained false or misleading statements. An omission of a material fact about related party transactions can have dire consequences including rescission in favor of investors, an SEC finding of securities fraud under Section 10(b) of the 1933 Securities Act and exposure under Rule 10b-5, one of the most important rules promulgated by the SEC with respect to securities fraud. Allegations by the SEC that an issuer or regional center has made false and misleading statements in an offering process can lead to assets being frozen and costly civil fraud litigation, particularly where the SEC can show opportunity to commit fraud through related party dealings.

How Can Regional Centers and Issuers of EB-5 Securities Mitigate Litigation Risks?

Every EB-5 regional center or issuer should consider adding a securities litigator to the offering team before introducing a deal into the marketplace. In the current climate, guidance on risk mitigation in an offering is critical. Having counsel involved early on during drafting sessions of an offering is an effective way to understand your disclosure obligations as you prepare a PPM. A securities litigator following the lifecycle of your offering – from inception of a business plan to closing of a deal – can serve as an excellent advisor to issuers in preventing problems and miscommunications with investors and government agencies. In the current climate, risk mitigation is an important component of EB-5 regional center business planning and operations.

Conclusion

The SEC is the ultimate referee in an EB-5 deal. Playing ball by the rules matters, especially when it comes to ensuring that material facts are disclosed to investors. Disclosures are the “sweetspot” of a PPM. A PPM without the right disclosures is about as effective as tennis racquet with no sweetspot. You’ve lost the match before the first serve.

If SEC litigation increases in the EB-5 realm, then we expect that otherwise lawabiding and compliant regional centers could be inadvertently swept up into costly litigation. This will be true even with regional centers who make a good faith effort to comply with the law. An SEC complaint against your regional center could seriously impede your ability to do business, even if you have the law and facts in your court. Therefore, now’s the time to add securities litigation counsel to your EB-5 team, if you haven’t done so already. Securities litigation counsel experienced in the purchase and sale of securities, the Foreign Corrupt Practices Act (FCPA), disputes with the SEC over what constitutes materiality in an offering, and other relevant areas can help you mitigate risk, protect investors and raise funds as you intended.

Article By Adam L. Sisitsky & Douglas Hauer of Mintz, Levin, Cohn, Ferris, Glovsky and Popeo, P.C.
©1994-2015 Mintz, Levin, Cohn, Ferris, Glovsky and Popeo, P.C. All Rights Reserved.

Sunlight is the best disinfectant: SEC charges oil company for fraud on EB-5 investors

In a recent action, SEC v. Luca International Group, LLC et al. (“SEC v. Luca“), the Securities and Exchange Commission (SEC) has charged a California-based oil and gas company and its CEO with violations of securities laws in connection with a $68 million Ponzi scheme and affinity fraud. The target of the fraud was the Chinese American community. Additionally, a portion of the funds raised by the defendants came from EB-5 investors seeking green cards through the EB-5 Program. The SEC issued both a press release and cease and desist order this week in connection with this most recent action. We think that this case highlights two important and relevant points for our readership, and that the SEC exposing the defendant schemers/fraudsters in SEC v. Luca is good for the EB-5 industry and integrity of the EB-5 program.

Prosecution efforts are going global– government agencies in Hong Kong and China assisted the SEC’s efforts 

Now more than ever before, the SEC is on the path to closing down actors in the EB-5 context that engage in deception and fraud. We are in a new era of enforcement, with the SEC becoming more familiar with the EB-5 Program. We think that this enforcement trend will move at an even faster clip as the SEC and United States Citizenship and Immigration Services (USCIS) become more agile in cooperating and responding to credible allegations of fraud.

EB-5 regional centers and issuers need to put into place sound and workable policies to ensure that marketing practices are in line with securities laws. Note that in SEC v. Luca, there was cooperation with the SEC and two foreign agencies, namely the Hong Kong Securities and Futures Commission and the China Securities and Regulatory Commission. Enforcement and prosecution efforts in this context are going global. Regional centers and issuers should ensure that any offshore sales efforts are in compliance with the laws of the countries in which sales activities are performed.

Overlooked federal and state investment adviser registration requirements  

SEC v. Luca is a reminder that investment adviser requirements may apply broadly in EB-5 transactions and require federal or state registration by regional centers, issuers and/or EB-5 deal facilitators. In SEC v. Luca, the SEC asserted that the defendants acted as “investment advisers” within the meaning of Section 202(a)(11) of the U.S. Investment Advisers Act of 1940 (“Advisors Act”) [15 U.S.C. Section 80(b)-2(a)(11), but had no registrations with the Commission. Confusion over investment adviser registration requirements is a commonplace problem in the EB-5 space. In SEC v. Luca, the defendants were in the business of providing investment advice concerning securities for compensation. According to the SEC, these key facts triggered registration requirements under the Advisers Act.

We will soon be providing an extensive alert with regulatory advice to EB-5 regional centers and issuers on the applicability of both federal and state investment adviser registration requirements. The applicability of such requirements should be made on a case-by-case with qualified securities counsel. There is no “one size fits all” advice. States have their own considerations in interpreting investment adviser registration requirements. And the SEC has its own interpretive guidance on the parameters of the registration requirements of the Advisers Act apply.

Conclusion

The egregious pattern of unlawful behavior by the defendants in SEC v. Luca included deceit in the marketing process, fraud in offering materials, comingling and misappropriation of funds, and violation of registration requirements. These are issues not just in the EB-5 context, but with private placements generally. Affinity fraud is also common in private placements.

EB-5 stakeholders should be aware that we are seeing a visible uptick in securities related prosecutions. No issuer, regional center or deal facilitator is immune from scrutiny. The SEC and USCIS are also working together more nimbly with foreign securities agencies. Sound policies, securities compliance and meaningful due diligence by experts are important in EB-5 offerings.

Sunlight is the best disinfectant. This adage is true for the EB-5 program. Stakeholders who promote a transparent and strong EB-5 program should applaud the SEC’s efforts.

ARTICLE BY Douglas Hauer of Mintz, Levin, Cohn, Ferris, Glovsky and Popeo, P.C.
©1994-2015 Mintz, Levin, Cohn, Ferris, Glovsky and Popeo, P.C. All Rights Reserved.

Senator Elizabeth Warren Criticizes SEC Chair Mary Jo White for “Extremely Disappointing” Leadership

In a letter dated June 2, 2015, Senator Elizabeth Warren described several “promises” that Mary Jo White, chair of the Securities and Exchange Commission, had allegedly broken. Senator Warren focused on (1) the SEC’s failure to finalize Dodd-Frank rules requiring disclosure of the ratio of CEO pay to that of the median worker; (2) settlement of enforcement actions without requiring admissions of wrongdoing; (3) grants of waivers to well-known seasoned issuers (WKSIs) found to have violated securities laws; (4) Chair White’s recusals due to her prior employment and her husband’s continuing employment at Wall Street defense firms; (5) the lack of proposed rulemaking to address disclosure of corporate campaign spending; (6) the “watered down” Rule ABII governing disclosures for asset-backed securities; and (7) new rules for small business capital formation that preempt state consumer protection laws. In particular, Senator Warren highlighted statements that Chair White made in various personal meetings about the timeline to finalize CEO pay disclosure rules, and cited several statistics concerning admissions of wrongdoing, waivers to WKSIs, and recusals. For example, in 520 settlements, the SEC required admissions of guilt in only 19 cases, and 11 of those involved only factual admissions. Under Chair White, the SEC granted 20 of 38 waiver requests. Chair White reportedly has recused herself from nearly 50 investigations due to her prior employment and has recused herself from approximately 10 investigations due to her husband’s current employment. Senator Warren closed the letter with demands for detailed information concerning the CEO pay rule, settlements and admissions of guilt, waivers, recusals, and campaign finance disclosures.

 A copy of the letter is available here.

ARTICLE BY Michael S. Gordon & Tenley Mochizuki of Katten Muchin Rosenman LLP

SEC Is Sued Again For Doing Nothing

Have you heard about a lawsuit filed earlier last week against the Securities and Exchange Commission due to its failure to respond to a petition asking the Commission to adopt political spending disclosure requirements?

SEC-logoGOLD

But must the Commission act on the petitions that are submitted to it?  Rule 192 of the Commission’s Rules of Practice requires only that the Commission acknowledge receipt and give notice of any action taken by the Commission:

The Secretary shall acknowledge, in writing, receipt of the petition and refer it to the appropriate division or office for consideration and recommendation.  Such recommendations shall be transmitted with the petition to the Commission for such action as the Commission deems appropriate.  The Secretary shall notify the petitioner of the action taken by the Commission.

At least three fundamental requirements are absent from Rule 192.  First, the rule doesn’t require the Commission to take action.  Second, the rule doesn’t require the Commission to act promptly. Finally, the rule doesn’t require the Commission to explain its reasons for denying a petition. Indeed, Rule 192 falls far short of the requirements of the Administrative Procedure Act as explained by then Circuit Court Judge Ruth Bader Ginsberg:

Section 4(e) of the Administrative Procedure Act, 5 U.S.C. § 553(e), commands that “[e]ach agency shall give an interested person the right to petition for the issuance … of a rule.”  Section 6(a), 5 U.S.C. § 555(e), requires “prompt notice” in the event an agency denies such a petition.  Further, section 6(a) directs that when a denial is not self-explanatory, “the notice shall be accompanied by a brief statement of the grounds for denial.”

Ass’n of Investment Bankers v. Securities and Exchange Commission, 676 F.2d 857, 864 (1982).

One obvious issue for the plaintiff in this most recent lawsuit is whether judicial review is even available.  The plaintiff doesn’t allege that the Commission has actually denied his petition.  To the contrary, the plaintiff admits that “To date, the SEC has given no indication it is still considering whether to recommend the issuance of such a proposed rule, nor has it otherwise responded to the pending rulemaking petitions”.  The complaint cites WWHT, Inc. v. Federal Communications Com., 656 F.2d 807 (D.C. Cir. 1981) but that case involved an actual order denying a petition for rulemaking.

Even if the court decides that a failure to respond is tantamount to a denial, plaintiff will still have an uphill climb.  As Judge Edwards observed in WWHT, Inc. review is “very limited”.  The court will also have to grapple with the conundrum of how to conduct a review when there is no record.

ARTICLE BY Keith Paul Bishop of Allen Matkins Leck Gamble Mallory & Natsis LLP
© 2010-2015 Allen Matkins Leck Gamble Mallory & Natsis LLP

Self-Reporting: A Wise Strategy or Chasing Unicorns?

As we noted in an earlier post, Department of Justice (DOJ) representatives have been emphasizing this spring the financial benefits of cooperation. They did so again last week at the Practicing Law Institute’s Enforcement 2015: Perspectives from Government Agencies, during which enforcement officials from the DOJ, SEC, CFTC, FINRA and Consumer Financial Protection Bureau (CFPB) all pushed back last week against complaints that the benefits of self-reporting are illusory and the costs far too high.

Director of the SEC’s Division of Enforcement Andrew Ceresney claimed that significant benefits of self-reporting are evidenced by three FCPA settlements earlier this year: a disgorgement-only settlement with Goodyear, a deferred prosecution agreement with PBSJ Corporation and a settlement with FLIR Systems, Inc. which entailed only a “minimal penalty” of $1 million. William Stellmach, Principal Deputy Chief of the Fraud Section at the U.S. Department of Justice, noted that the Alstom S.A. settlement in which Alstom paid a $772,290,000 criminal penalty to settle an FCPA prosecution “gives you 772 million reasons to self-disclose.” Among the factors cited for such a high fine was the company’s failure to self-report.

Stellmach claimed that – despite the perception of many practitioners that regulators almost always require some form of “public shaming” for even those companies that self-report – decisions not to prosecute are “not unicorns.” The difficulty, he explained, is that such decisions not to prosecute cannot be publicized without risking the adverse publicity companies want to avoid. As a result, he noted, there has been some discussion internally at DOJ about how it might anonymize such resolutions so that they could be publicized in order to provide the defense bar and their clients with evidence as to the benefits of self-reporting. The CFPB did exactly that, according to Deputy Enforcement Director Jeffrey Ehrlich, in a recent action filed against two financial institutions for alleged RESPA violations. A third institution (referred to in the complaint only as “Unnamed Financial Institution”) that engaged in the same conduct escaped being either named or fined by discovering the violation, reporting it and terminating the individual at issue.

The calculus regarding whether to self-report is also changing, according to the SEC’s Ceresney, as a result of the increase in whistleblowers. If a company’s management decides not to reach out to regulators, someone else may very well do it for them in today’s environment of substantial whistleblower awards.

For companies which have made the decision to self-report, the next decision is to which regulator should they report. The Director of the CFTC’s Division of Enforcement Aitan Goelman suggested that, if the company and/or the conduct is within the jurisdiction of multiple regulators, the company should advise all the relevant regulators, as opposed to relying on one regulator to pass the information along to the others.

The regulators also made clear that self-reporting is not, by itself, enough to get significant credit; sincere efforts and cooperation in uncovering the full scope of the problem is required. Ceresney and Stellmach, however, rejected criticism that regulator demands as to the scope of such investigations result in undue costs, sometimes in the hundreds of millions of dollars. Rather than micromanaging the companies’ investigation, the SEC and DOJ only expect a risk based investigation. For example, if an employee was paying bribes in one country, the investigation might cover only the countries in which the employee worked. Absent evidence of a more widespread problem, there would be no need to “boil the ocean” with an investigation that covered all operations around the globe.

Stellmach and others cautioned, however, that in order to receive the most significant credit for cooperation, a company must be willing to identify culpable employees and assist in the gathering of evidence in order to prosecute those individuals. As FINRA’s Executive Vice President of Enforcement J. Bradley Bennett noted, this is the area in which it is most difficult for FINRA to get cooperation. Too often, he indicated, the individuals identified by the company are dead, retired, now employed by a competitor or outside FINRA’s jurisdiction.

© 2015 BARNES & THORNBURG LLP  Authored by:  Anne N. DePrez

Whistleblower Award Update 2015

Drinker Biddle and Reath LLP a leading law firm with a national footprint

There was not much activity from the SEC Office of the Whistleblower (OWB) in the months since it announced the highest whistleblower award to date in September 2014, but that changed in February when it issued a number of denials.

Awards:

In the Matter of the Claim for Award, Exchange Act Rel. No. 72947. On August 29, 2014, the SEC issued its first award under the Dodd-Frank Act to an employee who performed audit and compliance functions. The employee, who had compliance responsibilities, received an award of $300,000. Generally, information provided to an individual with compliance responsibilities is not considered “original.” Such an employee is entitled to an award, however, if they first report the misconduct to the company and it subsequently fails to take action within 120 days. See 17 C.F.R. §§ 240.21F-4(b)(4)(iii)(B),v(v). This exception applied to the claimant because he reported the conduct to his supervisor 120 days prior to submitting it to the Commission.

In the Matter of the Claim for Award, Exchange Act Rel. No. 73174. In September 2014, the SEC announced a record-breaking whistleblower award of $30 million. The significance of this award was discussed in a previous blog post.

In the Matter of the Claim for Award, Exchange Act Rel. No. 74404. The SEC did not announce its next whistleblower award until March 2015. This award was the first ever to a former corporate officer who learned of a violation as a result of another employee reporting misconduct through corporate and compliance channels. Typically, officers who learn about fraud through another employee or through a compliance process are not eligible for an award under the whistleblower program. See 17 C.F.R. § 240.21F-4(b)(4)(iii)(A). However, the SEC’s bounty rules provide an exception that makes an officer eligible for an award if he or she provides the information to the SEC more than 120 days after other responsible personnel possessed the information and failed to adequately act on it. See 17 C.F.R. § 240.21F-4(b)(4)(v)(C). The former corporate officer fell within that exception and the SEC awarded the officer between $475,000 and $575,000 for reporting original, high-quality information regarding misconduct under the Dodd-Frank Act.

Denials:

In the Matter of Pipeline Trading Systems LLC, Notice of Covered Action 2011-194. Pipeline Trading Systems LLC (“Pipeline”) and two of its top executives agreed to pay $1 million for the company’s failure to disclose to customers that a majority of orders placed on its “dark pool” trading platform were filled by a trading operation affiliated with Pipeline. The SEC denied the claimant an award because he did not meet the definition of a “whistleblower” under the Exchange Act. (Denial Order Aug. 15, 2014).

In the Matter of the Claim for Award, Exchange Act Rel. No. 72947. On August 29, 2014, the SEC denied an award to a second claimant because the information provided did not lead to the successful enforcement of the covered action and did not contribute to the ongoing investigation.

SEC v. James Roland Dial, Case No. 4.12-CV-01654 (S.D. Tex. 2012), Notice of Covered Action 2012-66. The defendants caused Grifco International Inc. to issue more than 13 million unrestricted securities to themselves and then sold the securities shortly after into a rising artificial market (caused by their dissemination of false and misleading information). The defendants were ordered to pay disgorgement and prejudgment interest. The SEC denied the claimant an award because (1) claimant did not provide “original information” within the meaning of Section 21F(a)(1) of the Exchange Act and Rule 21F-4(b)(1)(iv), (2) the information provided by claimant did not lead to successful enforcement of a covered judicial or administrative action within the meaning of Section 21F(b)(1) of the Exchange Act and Rules 21F-3(a) and 21F-4(c), and (3) claimant was not a “whistleblower” within the meaning of Section 21F(a)(6) of the Exchange Act and Rule 21F-2 because he did not provide information relating to a possible violation of the federal securities laws in accordance with the procedures set forth in Rule 21F-9(a) under the Exchange Act. (Denial Order Feb. 13, 2015).

SEC v. Harbert Management Corporation, HMC-New York, Inc. and HMC Investors, LLC, 12-cv-5029 (S.D.N.Y. 2012), Notice of Covered Action 2012-89. Here, the SEC denied the claimant an award because (1) he did not provide information that led to the successful enforcement within the meaning of Section 21F(b)(1) of the Exchange Act and Rules 21F-3(a)(3) and 21F-4(c), and (2) he failed to submit information in the form and manner that is required under Rules 21F-2(a)(2), 21F-8(a) and 21F-9(a) & (b) of the Exchange Act. (Denial Order Feb. 13, 2015).

SEC v. Kenneth Ira Starr, 10 civ 4270 (S.D.N.Y. 2010), Notice of Covered Action 2012-129. On March 3, 2011, Starr was sentenced to 90 months in prison, ordered to pay more than $30 million in restitution, and ordered to forfeit more than $29 million in connection with his misappropriation of investor funds in connection to a series of cases filed against him by the government, which included charges of money laundering, wire fraud, fraud by an investment advisor, and misappropriation of client funds. This specific action arose from Starr’s misappropriation of at least $8.7 million of his clients’ money. The SEC denied the claimant an award because he or she did not provide information that led to the successful enforcement within the meaning of Section 21F(b)(1) of the Exchange Act and Rules 21F-3(a)(3) and 21F-4(c). (Denial Order Feb. 13, 2015).

SEC v. George Wesley Harris, No. 3:09-cv-01809-M (N.D. Tex. 2009), Notice of Covered Action 2011-206. The Northern District of Texas entered a $4.8 million judgment against Harris and his co-defendants for operating a fraud scheme that promised returns for investing in oil drilling projects in Texas and New Mexico. The SEC denied the award because (1) claimant did not provide information that led to the successful enforcement within the meaning of Section 21F(b)(1) of the Exchange Act and Rules 21F-3(a) and 21F-4(c), and (2) claimant also did not provide the Commission with original information within the meaning for Section 21F(b)(1) of the Exchange Act because Claimant’s submission was not derived from claimant’s independent knowledge or independent analysis. The SEC further noted that the claimant made a false statement on the Form WB-APP, which was signed under penalty of perjury, by stating he or she was “the 44th President of the United States.” (Denial Order Feb. 13, 2015).

The OWB denied two other claims, one on February 13, 2015, and one on February 16, 2015, in orders that make it impossible to tell the name or nature of the underlying action. Both claims were denied, however, because the information provided by the whistleblowers did not provide information that led to the successful enforcement of an action within the meaning of Section 21F(b)(1) of the Exchange Act and Rules 21F-3(a)(3) and 21F-4(c). Specifically, the information did not (1) cause the Commission to (i) commence an examination, (ii) open or reopen an investigation, or (iii) inquire into different conduct as part of a current Commission examination or investigation under Rule 21F-4(c)(1) of the Exchange Act; or (2) significantly contribute to the success of a Commission judicial or administrative enforcement action under Rule 21F-4(c)(2) of the Exchange Act.

Finally, the Second Circuit upheld the SEC’s denial of an award to a whistleblower who provided information to the SEC before the enactment of the Dodd-Frank Act in July 2010. Styker v. S.E.C., No. 13-4404-ag, 2015 U.S. App. LEXIS 3765 (2d Cir. Mar. 11, 2015). The whistleblower submitted information from 2004-2009 to the SEC, which eventually led to a $24 million settlement with Advanced Technologies Group. The Second Circuit rejected the whistleblower’s argument that the SEC went beyond its congressionally mandated authority, and it deferred to the SEC’s interpretation of the law that information submitted prior to July 2010 does not qualify for an award. Id. at *8-9.

ARTICLE BY

William L. Carr
Daniel E. Brewer
Lucas B. Michelen