Securities Lawyer Blog

Last week, the Securities and Exchange Commission (SEC) announced that Kmart Corporation's former Chief Executive Officer, Charles C. Conaway, has been ordered to pay in excess of $10 million in disgorgement, prejudgment interest and civil penalties.

This matter dates back to August 2005, when the SEC filed an action against Mr. Conaway, alleging that prior to the company's bankruptcy, he misled investors with regard to Kmart's financial condition.

In June 2009, after a three-week trial held in the United States District Court for the Eastern District of Michigan, the jury returned a verdict in favor of the SEC. The SEC had alleged that Mr. Conaway engaged in material misrepresentations and omissions with regard to the liquidity of the company. Specifically, he was alleged to have been responsible for making these misrepresentations in the Management's Discussion and Analysis ("MD&A") section of Kmart's Form 10-Q for the third quarter and nine months ended October 31, 2001, and in an earnings conference call with analysts and investors.

The SEC had argued in the case that Mr. Conaway, along with Kmart's former Chief Financial Officer, John T. McDonald, failed to disclose why the company had engaged in a huge overbuy in 2001 and how that had impacted the company's liquidity. The jury agreed with the SEC's allegation that the MD&A disclosure misstated the reasons for this inventory build-up. The company claimed this was due to "seasonal inventory fluctuations and actions taken to improve our overall in-stock position." The SEC's position was that this was materially misleading since the actual reason for much of this inventory mess was due to "reckless and unilateral purchase of $850 million of excess inventory."

After this occurred the company began to pull back on timely payments to vendors and by the end of the third quarter 2001, in essence had borrowed $570 from its vendors in slow payments. Then the executives misrepresented the reasons behind the failure to pay vendors and its impact on liquidity. Many vendors stopped shipping products to the company in late 2001 and the company filed for bankruptcy in January 2002.

The court's order will require Conaway to pay disgorgement in the amount of $5,000,000, prejudgment interest of $2,853,432 and a civil penalty of $2,500,000. Additional specifics are currently being negotiated by the parties with regard to the handling of a stay, pending the appeal of this matter.

Related Web Resources

Click here for more information on disclosure requirements in Form 10Q and related filings.

Continue reading "Court Orders Former Kmart CEO to Pay $10 Million " »

Last week, the Securities and Exchange Commission (SEC) filed a complaint in the U.S. District Court for the Southern District of New York against Daniel Bonventre. Mr. Bonventre is alleged to have made a career of falsifying records in Bernard Madoff's back room operations.

The purpose of the alleged fraud was not only to create enrichment for Madoff's key players, but also to create a false appearance of legitimate income. Apparently, for about three decades, Mr. Bonventre was responsible for the back office operations of the now infamous Ponzi scheme -- also known as Bernard L. Madoff Investment Securities LLC (BMIS). Specifically, he managed the accounting and securities clearing functions.

The SEC claims that Bonventre not only knew investors' monies were not being used to purchase securities, but lined his own pockets to the tune of $1.9 million placing false backdated so-called trades in his own account.

Not surprisingly, this latest filing is the seventh enforcement matter brought in the Madoff matter. Prior SEC actions include those against Madoff, auditors, computer programmers and others involved in the elaborate scheme. Guilty pleas have been entered for criminal charges brought in these matters.

According to the SEC's litigation release Mr. Bonventre hid the liabilities to investors and assets received from them. Mr. Bonventre is alleged by the SEC to have assisted Madoff and his close advisor Frank DiPascali, Jr., in lying to investors and regulators when BMIS operations came under review. The operational losses of BMIS were kept secreted behind a wall of $750 million in investor funds employed to "artificially improve reported revenue and income."

In the words of the SEC, "[w]ith Bonventre's assistance, they made serial misrepresentations to external reviewers by manufacturing reams of false reports and data."

Related Web Resources

Information on SEC Madoff-related matters can be located at accounting and auditing enforcement releases and litigation releases at www.sec.gov.

Continue reading "More Guilty Please? $1.9 Million Illicit Profits for Madoff's Chief Back Room Operator" »

Client representation is front and center of the life of a lawyer and these days representation often includes media strategy and planning. But in one case, media strategy is currently front and center in the retrial of a former executive.

As the retrial of Gregory Reyes, former CEO of Brocade Communications Systems, Inc., begins, the issue of attorney client privilege is part of the prosecution's strategy. The Department of Justice is pushing the court to allow statements made in a press release by Reyes' former counsel, Richard Marmaro. Marmaro's statements were intended to help his client, but the government would like to use the statements as evidence against him.

In the first instance, Marmaro said that his client did not backdate options. But at trial he argued that although backdating did occur, it was not illegal. Also at issue are the files kept on Reyes by the public relations firm that was representing him.

United States Federal District Court Judge Charles Breyer who sits in the Northern District of California presided over the first trial and will also preside over the retrial. The first trial ended in conviction but was thrown out by the Ninth Circuit after it was alleged that the government knowingly made false statements in closing arguments.

The critical issue with regard to waiver is whether Reyes provided information to his lawyer knowing that that information would become public. Reyes' new lawyers have filed a motion to quash the subpoena that was issued to the PR firm, saying the statements made by counsel were necessary and that information received by the PR firm should not have to be produced. They argue counsel was responding to the intensity of media created by the government at the outset of the case.

Judge Breyer has indicated he might well allow Reyes' former attorney Marmaro's quotes and other information from the PR firm into evidence. According to the Judge, "an argument could be made that it's not a confidential communication." If the Judge Breyer allows this into evidence, it could damage the defense case especially when coupled
with the potential testimony that the company's finance department had knowledge of the backdating.

The Securities Lawyer Blog has posted on the recent BofA waiver issue. The development of the law as regards attorney-client privilege is something to watch carefully. The Reyes matter is instructive in the care that must be taken in creating and implementing a media
litigation strategy as well as the use outside of outside firms to support these efforts.

Resources on the Reyes trial and retrial can be found at law.com

Continue reading "Talking Points Or Taking Points? Privilege Waiver on the Line." »

The Securities Lawyer Blog has posted twice on the Broadcom backdating case -- and now we have news from the Securities and Exchange Commission (SEC).

Reviewing the history of this matter, we first posted in September 2009 that the company settled the derivative action for $118 million and again in December 2009 when Judge Cormac Carney entered an acquittal and dismissal against former executives.

Last week, the SEC announced its intention not to proceed with its civil action, which had been stayed at the United States Attorney's request pending the criminal trial.

The SEC's initial civil action was filed in May 2008, in the United States District Court for the Central District of California. In that case, the Commission alleged that Henry T. Nicholas III, Henry Samueli, William J. Ruehle, and David Dull, who were current or former officers of Broadcom, had been involved in a scheme to backdate stock options over a period of several years.

Judge Carney entered an acquittal in Ruehle's criminal trial last December and dismissed the stock option backdating indictment against Nicholas. The judge expressed deep concerns about the U.S. Attorney's conduct in the matter. He also dismissed the SEC's complaint without prejudice. The Commission was discouraged from pursuing its action.

Last month, after the SEC sought clarification of the dismissal order, the court indicated that the SEC's action would not survive summary judgment given the evidence presented in Ruehle's criminal trial and the preclusion of testimony of Broadcom's former vice president of human resources. After consideration, the Commission announced last week its intention not to proceed further.

Federal prosecutors have filed a notice of appeal for the dismissal of the case against Nicholas. Some have questioned the wisdom of Broadcom's settlement in the derivative action given these dismissals. But it appears, at least for now, that the storm is over for Broadcom and its former executives, $118 million dollars later.

Related Web Resources

To read more about the Broadcom case go to the Orange County Register.

Continue reading "SEC Backs Off Broadcom Backdating Case -- $118 Million Later" »

The Securities Lawyer Blog has followed the Bank of America's troubled settlement with the SEC in its acquisition of Merrill Lynch. The matter is finally moving towards resolution. Maybe.

Last week, the Am Law Daily Blog reported that BofA has settled with the SEC. Again.

Both the SEC and BofA are hopeful that this time Judge Rakoff will approve the settlement.

As previously reported, the original settlement of $33 million in fines was dismissed by Judge Rakoff as "trivial" for BofA's alleged failure to notify shareholders prior to its acquisition of Merrill Lynch that it planned to pay billions of dollars in employee bonuses. The Judge was not pleased that ultimately the shareholders would bear the burden of the fines.

The new settlement proposal carries substantially more in fines and includes specific oversight provisions and apparently a distribution plan that might please the judge.

According to the SEC, the new settlement deal includes a payment by the bank of $150 million in fines and will strengthen its corporate governance and disclosure practices. In this deal, the SEC requires the bank implement specific remedial measures over three years. These include, but are not limited to:

-- An independent auditor to audit internal disclosure controls;

-- Requires the CEO and CFO to certify a review of annual and merger proxy statements;

-- Retain disclosure counsel to report to the Board's Audit Committee;

-- Adopt a "super-independence" standard for the Compensation Committee prohibiting acceptance of other compensation from the bank;

-- Maintain a Consultation Committee consultant that would meet super-independence criteria; and,

-- Prominent publication on the bank's website of incentive compensation principles.

The bank has also agreed to turn over some formerly privileged documents between the bank and its counsel. The larger issue of privilege waiver - based on an alleged drafting error -- is still being litigated in separate shareholder cases.

Troubles remain as New York Attorney General Andrew Cuomo announced last week that his office has filed a civil suit against BofA and three former BofA executives. The suit charges BofA with disclosure violations in the Merrill acquisition.

If Shakespeare were alive today, he might be seeking out an interview with Judge Jack Weinstein. Or perhaps invite him up to Stratford for a weekend of discussion on the human condition and its intersection with the sub-prime crisis.

Last week, the Judge sentenced Eric Butler, a securities dealer who formerly worked for Credit Suisse. Think of all the good work he could have done in five years on Wall Street.

Instead, he will be in prison and he will pay $5 million dollars in fines. He will also be supervised for three years after his release from prison. He told the court tearfully last week that he regrets all of this.

Mr. Butler was fairly brazen apparently in his push to get investors into very high-risk sub-primes that also happened to carry high-commissions. These investors lost over one billion dollars.

He was convicted of things that Shakespeare would not have known about and some things he would like fakery and fraud. In fact, allegations of securities fraud, conspiracy to commit securities fraud and conspiracy to commit wire fraud were the rub for Mr. Butler.

The Judge's Statement of Reasons at the sentencing on some of these charges included deeply cutting prose. Pointing to the "the pernicious and pervasive culture of corruption" on Wall Street, the Judge went out of his way to express his concerns saying that "[t]he most compelling aspect of this case may be its illumination of the need to reconsider how compensation is calculated and investment products are marketed by the financial industry." He urged reform.

Lots of people are condemning this culture. It has hurt many people in America.

If Shakespeare failed to rip this story from the headlines, perhaps Charles Dickens would. The tale aligns well with so many Dickens characters as life imitates art. Or more likely, these great artists understood what is in the human character. One such Dickens character Mr. Merdle, swindles all the swooning swells of the time in a Ponzi-like scheme almost exactly along the lines of Mr. Madoff. The character of Mr. Butler is apparently not far off the mark.

And so into the annals of American law go the likes of Eric Butler. He is the new Merdle. He hopefully has learned that crime does not pay as his family has lost him for a period of years to another place, maybe not as bad as the Marshalsea prison, but still, prison.

In his Sentencing Statement of Reasons the Judge passed responsibility around the table like a plate of cookies in a Rockwell painting gone wrong. "The blame for this condition is shared not only by individual defendants like Butler, but also by the institutions that employ them, those who carelessly invest, and those who fail to regulate. Supervision is seriously negligent; greed and short-term gain are so enormous that fraud and arrogant disregard of others' rights and of ethics almost encourage criminal activities such as defendant's."

So, in short, the Judge seemed to be saying that we all need to look at this culture, because it is not any one defendant's doing. It is a culture Americans have allowed, it is our Wall Street and it is our responsibility to make it right. Both Shakespeare and Dickens would probably approve of that message.

Related Web Resources

For a complete review of the Sentencing Statement of Reasons, click here.

Earlier this week, Judge Rakoff refused to allow the SEC to amend its previously-filed complaint against the Bank of America Corp. related to its merger with Merrill Lynch. Denying the motion to amend, the judge also stated that the SEC could file a new action if it chose to do so. It chose to do so.

A quick refresher is in order. As the Securities Lawyer Blog has noted in prior posts, the case has been moving forward with Judge Rakoff's firm management in one of the most well-reported cases in recent years. All of this after the parties had reached a settlement that was ultimately rejected by the judge.

The case is of significant interest to the American public and to industry insiders for many reasons, not the least of which is the allegation that substantial bonuses to Merrill were not disclosed to shareholders prior to the merger vote in December 2008.

Back to the recent motion. The SEC sought by amendment, to present a charge that BofA failed to disclose "extraordinary losses" at Merrill prior to the merger vote.

Although Judge Rakoff refused to allow the amendment to the SEC's complaint, he gave some solid reasons for this decision. First, he intends to move forward with a March 1, 2010 trial date on the original complaint. Second, he expressed concern that new allegations with new underlying facts could confuse the jury and the bank should be permitted time to assess the allegations and present a defense to it.

The SEC's litigation release details the charges against Bank of America which include the allegation that the bank violated "federal proxy rules by failing to disclose extraordinary financial losses at Merrill Lynch prior to a shareholder vote to approve a merger between the two companies.

The SEC's complaint alleges that Bank of America learned prior to the shareholder vote that Merrill Lynch had incurred a net loss of $4.5 billion in October 2008 and estimated billions of dollars of additional losses in November.

The SEC claims that BofA "erroneously and unreasonably concluded that no disclosure concerning these extraordinary losses was required as shareholders were called upon to vote on the proposed merger with Merrill Lynch." The bank's failure to disclose this information, according the SEC, "violated its undertaking to update shareholders concerning fundamental changes to previously disclosed information, and rendered its prior disclosures materially false and misleading."

In the litigation release, the SEC acknowledged the assistance of the US Attorneys' offices in the Southern District of New York and Western District of North Carolina, the Federal Bureau of Investigation, and the Office of The Special Inspector General for the Troubled Asset Relief Program.

Continue reading ""Extraordinary" -- Claims SEC In New Suit Against BofA in Merrill Deal " »

The Securities and Exchange Commission (SEC) announced earlier this week that it has secured a settlement with the former Perot family companies employee charged with insider trading. The Securities Lawyer Blog featured this matter on an earlier post.

The settlement includes a return of illicit profits and the overall amount to be returned exceeds $8.6 million. The settlement was filed in federal court in Dallas, Texas. Part of the settlement includes a request by the SEC that a distribution plan be developed for the illegal profits to be returned. This plan would be handled by a third party. The agency also seeks to impose a financial penalty against the former Perot family company employee, Mr. Reza Saleh.

The insider trading case developed after Dell Inc. announced its intention to acquire Perot Systems. The agency alleged that Mr. Saleh had made "increasingly large purchases of Perot Systems call options contracts based on material, non-public information that he learned in the course of his employment with, or duties for, two Perot-related private companies and Perot Systems." Allegedly, immediately after the tender offer he sold all call option contracts and gained about $8.6 million in illicit profits.

WIthin two days, the SEC was in court and pursuing the insider trading deal as it sought and secured an order freezing the profits that resulted from the it. The SEC alleged that Mr. Saleh had "illegally traded in Perot Systems call options after learning about the merger before it was announced."

The SEC was assisted in the matter by several other entities including the Chicago Board Options Exchange, Options Regulatory Surveillance Authority, the Nasdaq OMX and the Financial Industry Regulatory Authority (FINRA).

Mr. Saleh has not admitted or denied the allegations against him. The settlement includes an agreement that he will be permanently enjoined from violations of the anti-fraud provisions of the Securities Exchange Act of 1934 as well as an agreement to an SEC administrative order barring him from future association with any investment adviser.

Related Web Resources

Click here to read more about the Options Regulatory Surveillance Authority and the authorities involved in surveillance and investigation of insider trading matters.

The Financial Industry Regulatory Authority (FINRA) warned investors earlier this week that green is not always good.

FINRA was established to ensure that investors are protected and the markets maintain integrity. This time, FINRA's focus is protecting the public from big promises made by companies claiming to be involved in renewable and alternative green energy investments that in fact won't bring returns.

In the new alert, Save Your Greenbacks --- Don't Fall for Green Energy , FINRA helps investors by informing them about how these green scams are often carried out. Using social media vehicles such as tweeting and texts as well as webinars and faxes these scams attempt to secure investors using what FINRA calls "very aggressive, optimistic and potentially false and misleading statements that create unwarranted demand for shares of a small, thinly traded company."

The alerts goes on to describe the activities surrounding green investment scams as "a classic 'pump and dump' fraud where con artists behind the scheme then sell off their shares, leaving investors with worthless stock. Fraudsters are also using green investing as a hook for Ponzi schemes, where a scammer uses incoming funds from new investors to pay purported returns to earlier stage investors."

This is all to be expected perhaps. While there are many companies working hard to rise to preeminence in the green and renewables arena, the opening of a new industry also provides opportunity for dishonest plays for investment.

The alert provides information to investors as to how to research companies prior to investing and signs that could indicate potential scams.

As noted by John Gannon, FINRA Senior Vice President for Investor Education "right now there are a lot of legitimate stories in the news about green energy initiatives, and con artists want to leverage people's interest in green energy to make a quick buck at investors' expense. There is a lot of interest in companies that claim to provide green energy, but we issued this Alert to remind investors to be vigilant about avoiding investment scams, no matter how they are packaged."

Investors need to be certain of the source of investment information, particularly those that are unsolicited as well as the basis for promises of large returns. FINRA provides one example in which scam artists claimed that a particular solar stock was set for a huge gain and another in which a company was claimed to be poised for huge returns from green patents.

Investors have also been approached in a recent alleged Ponzi scheme to cash in all their traditional investments to buy into a company's green initiatives.

Some green companies may have great potential from an investment standpoint, but it is important that investors educate themselves prior to making investments in this or any sector.

Related Web Resources

To learn more about investment research, visit the investors area on FINRA's website.

Earlier this week, the United States Supreme Court granted certiorari in Morrison v. National Australia Bank Ltd. (08-1191), a case involving a question of transnational securities and the application of US securities fraud laws.

The case was brought by four Australian shareholders against National Australia Bank and HomeSide Lending, which formerly was its mortgage unit located in Florida.

The appeal will determine when the United States' securities fraud laws apply in transnational securities dealings. The high court will review the appellate court's upholding of a dismissal of the lawsuit. The intermediate appellate court determined that the United States courts had no jurisdiction in the matter, since the alleged fraud at the center of the allegations occurred outside the United States.

A few basic facts. National Australia Bank purchased HomeSide Lending in 1998 for $1.22 billion and several years later announced write-downs amounting to $2.2 billion. After this occurred, the bank's stock value fell 13% in Australia and several HomeSide executives resigned.

The bank eventually reported to the SEC that it had applied incorrect interest assumptions in valuing the mortgages over time. They miscalculated the amount of time it would take for borrowers to pay back loans, and thus the fees associated with those loans. Later, HomeSide was sold to Washington Mutual and picked up in 2008 by JPMorgan Chase when it purchased Wamu's assets.

Specifically, the questions presented in the case are as follows:

1) Do anti-fraud provisions of U.S. securities laws extend to transnational frauds when (a) foreign-based parent company conducted substantial business in United States, its American Depository Receipts were traded on New York Stock Exchange, and its financial statements were filed with Securities and Exchange Commission, and (b) claims arose from massive accounting fraud perpetrated by American citizens at parent company's Florida-based subsidiary and were merely reported from overseas in parent company's financial statements?

(2) Should this court, which has never addressed issue of whether subject matter jurisdiction may extend to claims involving transnational securities fraud, set forth policy to resolve three-way conflict among circuits (i.e., District of Columbia Circuit versus Second, Fifth, and Seventh Circuits versus Third, Eighth, and Ninth Circuits)?

(3) Should Second Circuit have adopted SEC's proposed standard for determining proper exercise of subject matter jurisdiction in transnational securities fraud cases, as set forth in SEC's amicus brief submitted at request of Second Circuit, and should Second Circuit have adopted SEC's finding that subject matter jurisdiction exists here due to "material and substantial conduct in furtherance of" securities fraud that occurred in United States?

In their effort to have the Supreme Court accept the case, the shareholders' attorneys argued that the appellate courts are divided as to when the US has jurisdiction over transactional securities fraud. They advocated that the anti-fraud provisions of the securities laws apply to transnational securities frauds even when overseas investors suffer the resulting financial losses. This they argued is proper if the domestic conduct was material to the scheme's success and a substantial part of the alleged fraud.

The Securities and Exchange Commission represented by the U.S. Justice Department, argued that the lower courts had correctly dismissed the lawsuit and urged the Supreme Court to reject the appeal. The government advocated that a private plaintiff should be required to demonstrate a direct causal link between injury and the component of the scheme involved in the United States.

The case will be heard and decided in 2010.

Related Web Resources

For more information on the USSC case docket for the Morrison case, click here.

Remember last year when the deep freeze hit the Auction Rate Securities market?
It's been a long winter for the firms involved in the ARS failure.

Securities Lawyer Blog has been keeping an eye on the price tag for the buy-back of these securities. Across the board, firms told investors that these securities were safe, liquid and more like CD's than securities. Estimates are the cost is now up to about $61 billion.

Recently, the California Attorney General announced that Wells Fargo & Co. has agreed to buy back approximately $700 million in auction-rate securities from investors in California. The deep freeze for Wells' California ARS investors is over.

In addition to making investors whole, the bank's settlement includes a $600,000 payment back to the Attorney General's office for the expenses involved in investigating and settling the auction-rate failure.

Wells Fargo joins the ranks of many other firms that have paid out millions to their investors after the ARS market froze last year. In a statement regarding the settlement, Charles Daggs, Wells Fargo Investments CEO noted: "We have been working with ARS issuers since the auction rate market froze, and while there has been progress, redemptions by issuers have not occurred as fast as anyone would have hoped or predicted. We are glad to have resolved this for our customers."

California AG, Jerry Brown, who also happens to be trying to regain his residence as Governor of California commented on the settlement saying, "Wells Fargo convinced thousands of investors to purchase auction-rate securities with promises of robust returns and liquidity, but when the market collapsed, investors were left out in the cold."

In addition to the California settlement, Wells Fargo will also buy back $700 million in frozen ARS from residents outside California. This settlement was reached through efforts on the part of the California Department of Corporations and the North American Securities Administrators Association. In total, Wells Fargo states that it will pay penalties and fines as part of the settlements in the amount of $1.9 million.

Related Web Resources

For more information on the Auction Rate Securities issue, visit FINRA.org.

Continue reading "Auction-Rate "InSecurities" -- Wells Fargo's $1.4 Billion Buy Back" »

Does playing with the numbers ever really pay off? The Securities & Exchange Commission (SEC) is working hard to make sure we all know that it doesn't.

Yesterday, the SEC announced that it has filed its first enforcement action using Regulation G against SafeNet, Inc. and several of its former officers and accountants.

The SEC filed its complaint in the United States District Court for the District of Columbia and it includes a laundry list of allegations and fines, which the parties have settled without admitting or denying allegations. All are subject to court approval.

The SEC complaint alleges that SafeNet engaged in two fraudulent schemes from late 2000 through May 2006, including backdating of options and the other improper earnings management. In each scheme, SafeNet is alleged to have materially misstated financial results and disseminated materially false and misleading information to investors about its financial status. Senior officers of the company were involved in these schemes and accounting executives are alleged to have been involved in the earnings management scheme.

In addition to many other violations, the SEC makes its first enforcement use of Regulation G against SafeNet. The SEC instructs that: "Regulation G applies whenever a company subject to the periodic reporting requirements under Section 13(a) or 15(d) of the Exchange Act of 1934, or a person acting on the company's behalf, discloses publicly any material information that includes a 'non-GAAP financial measure.' "

According to the SEC, non-GAAP financial measures, those not calculated in conformity with Generally Accepted Accounting Principles, frequently exclude non-recurring, infrequent, or unusual expenses. Companies are required to reconcile these with the most directly comparable GAAP financial measure. The regulation also prohibits companies and their employees from disseminating false or misleading non-GAAP financial measures or presenting the non-GAAP financial measures in such a manner.

The complaint against the company and individuals alleges that in order to meet earnings targets improper accounting adjustments were made to expenses that included such things as: the improper classification of ordinary operating expenses as non-recurring integration expenses (costs incurred to integrate acquired companies into current operations), and the improper reduction of accruals and reserves.

SafeNet is alleged to have issued materially false and misleading securities filings and press releases with regard to earnings specifics. Backdating of option grants for senior executives and employees is also alleged to have occurred resulting in substantial profit-taking by those receiving these option grants.

The parties are enjoined from violating a long list of antifraud and other Securities Act and Securities Exchange Act provisions. SafeNet is ordered to pay a civil penalty of $1,000,000.

The complaint provides more specifics regarding the settlements, fines and penalties imposed on the parties. Their cooperation with the SEC was taken into account in the matter.

Related Web Resources

For additional information on SEC enforcement activities, visit www.sec.gov.

Continue reading "SEC's First Enforcement Using Regulation G Targets SafeNet - Over $1 Million in Fines" »

Last month, the Securities and Exchange Commission (SEC) brought securities fraud charges against a New York securities broker who allegedly created and disseminated "fake press releases to manipulate the stock prices of multiple publicly traded companies."

But for this publicity hound, the alleged campaign failed in short order.

The accused broker, Mr. Lambros Ballas, is a registered representative with the firm Global Arena Capital Corporation. His alleged scheme was simple, fraudulent and has landed him in a big heap of trouble.

First, there was a phony press release in which Mr. Ballas clamed that the United States Food and Drug Administration (FDA) had approved a drug developed by Discovery Laboratories, a Pennsylvania biotech firm. Next, he posted a confirmation of this news on a stock message board, making it seem even more legitimate by linking back to the "official press release." These activities apparently spiked the stock price as the company's shares opened much higher the next day.

Perhaps having been charmed by these results, the broker continued with this activity.

Again, he started with a fake press release in which he claimed that Disney had acquired IMAX Corporation. The pattern continued with a posting to a stock message board in which he attempted to independently confirm this "news" and boasting of big IMAX share acquisitions. This apparently was intended to lure investors and spike the price.

The fake PR game continued with a claim, again using a phony press release, in which it was claimed that Microsoft was acquiring Local.com of California. The scheme continued with the same pattern of activity and postings with links on stock message boards in which the broker attempted to independently verify the acquisition.

When Local.com's price rose almost 80 percent, the company issued its own press release stating that the Microsoft acquisition was false. Undeterred, the broker issued another fake press release stating that Google was to acquire Local.com.

The broker and his unwitting clients purchased shares of these companies just prior to the false publicity.

In its statement, the SEC's San Francisco Regional Office Director Marc Fagel characterized the activities as "disturbing" and stating that "Ballas caused significant market disruption with his hoaxes, forcing companies to scramble to correct the public record." He noted that "swift SEC action" was warranted "because Ballas is an industry professional responsible for handling his customers' brokerage accounts."

The broker is charged with violations of the antifraud provisions of the federal securities laws. In its complaint, the SEC is seeking injunctive relief, disgorgement of ill-gotten gains, and monetary penalties against the broker.

Related Web Resources

For additional information on SEC enforcement activities, visit www.sec.gov.

Continue reading "Publicity Stunted -- SEC Shuts Down Broker's Fake PR Blast " »

Citigroup Global Markets Inc. experienced a bit of self-inflicted pain last week.

The firm's failure to supervise tax-related stock transactions is carrying a censure and a $600,000 fine, according to the Financial Industry Regulatory Authority (FINRA).

In a recent statement, FINRA's Executive Vice President and Chief of Enforcement, Susan Merrill instructed that "[i]ncreasingly, complex trading strategies must be governed by supervision that is equally sophisticated and detailed ... In this case, Citigroup's inadequate supervision resulted in improper trading related to the execution of strategies involving transactions with a principal purpose of limiting tax liability."

Point well-taken perhaps as the issue for Citigroup was their alleged failure to establish procedures that would detect improper trades and to supervise or control these activities.

The trading involved several strategies and complex trading moves described generally as follows.

Citigroup's equity finance desk would purchase stock from generally foreign, broker-dealer clients. Once the taxable dividends had been paid, the stock would be sold back to the customer.

The problem for Citigroup is that when U.S. stock dividends are paid out to foreign investors, there may in fact be a taxable event that would require withholding. In the transactions at issue, Citigroup and its clients apparently believed these transactions were not subject to tax withholding, viewing them as "dividend equivalents" and part of a swap agreement.

To participate in this strategy, foreign Citigroup clients would sell U.S. equities to the firm's equity finance desk in New York, which served as custodian for these dividend-bearing stocks for the firm's London affiliate.

As FINRA elaborates on the scheme: The affiliate would in turn use the stock as "the underlying equity hedge in a 'total return swap' entered into with the customer. Under the swap, the London affiliate paid the customer a 'total return,' which was any income the stock generated, including any appreciation in value, as well as an amount equivalent to the dividend. In exchange for the 'total return payments,' the customer paid the London affiliate interest and covered any decline in the share price."

Between 2002 and 2005, these transactions resulted in foreign clients receiving the full value of U.S. company dividends, without paying the withholding tax.

Citigroup already paid (around 2006) a substantial $24 million to the Internal Revenue Service due to this strategy. They did so after coming to the conclusion that they could not verify whether some trades were independent.

However, in a somewhat inexplicable failure to supervise, even after the firm put written procedures in place, traders did not follow them.

Related Web Resources

For more detailed information on the Citigroup transactions subject to the supervisorial failure and related matters, visit www.FINRA.org where you will also find extensive resources for industry professionals and investors.

Continue reading "Seriously Taxing -- Citigroup Fined $600,000 in Failure to Supervise " »

As just about every lawyer in the country knows by now, Bank of America has waived attorney-client privilege with regard to its communications in the Merrill Lynch merger. Some are questioning the wisdom of that decision, or at least its implementation.

The AmLaw Daily posed the question in a piece last week and noted that at least one expert believes the bank's waiver could lead to "more lawyers getting access to privileged documents than the bank intended."

As the Securities Lawyer Blog has reported, the Securities and Exchange Commission (SEC) sued BofA for allegedly violating required shareholder disclosures in the merger with Merrill Lynch late last year. The case has been the subject of significant media attention as Judge Rakoff refused to approve the settlement between the SEC and BofA after extensive briefing and argument.

Once this occurred, the attention turned to the bank's lawyers at Wachtell, Lipton, Rosen & Katz who had represented and provided advice to the bank on the merger. BofA was under a great deal of pressure to "waive" attorney-client privilege in its communications with its lawyers as BofA had focused on its reliance on the advice of counsel in the alleged failure to follow disclosure requirements.

Last week, BofA agreed to "waive" attorney-client privilege in the SEC matter. Relying on Federal Rule of Evidence 502, BofA's counsel in the pending matter, drafted a waiver order that was presented to and signed by Judge Rakoff. The waiver also applies to the New York attorney general's investigation.

Rule 502 is intended to allow a limited disclosure of what would otherwise be privileged, so that investigation targets can disclose privileged documents to investigators without providing a broad waiver that might apply to other pending litigations.

However, Gregory Joseph who was involved in the drafting of Rule 502, believes that BofA and its lawyers did not properly word the waiver and as a result, 58 cases (including a class action) that it intended would not be subject to the disclosure, might in fact be exposed to a waiver argument.

That could hurt a great deal. Joseph's conclusion is that the order "does not operate to preserve the privilege as it is phrased because it is not authorized by Federal Rule of Evidence 502." The potential error in the drafting of the order is that according to Joseph, Rule 502 does not in fact deal with waivers, but rather allows corporations a limited disclosure, not a waiver.

Only time will tell whether other parties will attempt to use the disclosure order and its reliance on Rule 502, as a blanket waiver in the cases BofA (and the SEC which co-drafted the order) intended to protect.